In December, the SEC announced proposed changes to the accredited investor definition that would let more people access private market strategies like private equity. This is a move we support. In fact, with adequate protections in place, we believe the SEC’s proposal could go further in empowering individual investors to access private markets.
Private Markets Offer Significant Growth Opportunities
Over the past 20 years, a fundamental transformation of the public markets has shifted much of the economic growth to private markets. Today there are far more private than public companies, and those companies are staying private longer (and in many cases avoiding going public altogether). As a result, many of the best growth opportunities are in private markets where they are inaccessible to the vast majority of individual investors.
Family offices and institutional investors such as pensions, foundations, and endowments, have long recognized the benefits of investing in private markets. Allocations to private equity of 15% to 40% or more are common among these large, sophisticated investors. Given the success that these institutional investors have enjoyed in the private markets, it should come as no surprise that many are calling for the SEC to level the playing field by broadening access to these opportunities.
The SEC Proposal Emphasizes Knowledge
The SEC’s current proposal for reworking the accredited investor definition would open access to exempt offerings to investors who have attained relevant professional or educational credentials and knowledgeable employees of these funds. It would also allow spousal equivalents to pool assets to meet the accredited investor standard. These are all positive developments.
Because private markets can be complex and illiquid, a strong knowledge base about these strategies is essential, something the first part of the SEC proposal addresses. We believe, however, that individual investors working with an advisor who has the required professional or educational certification could safely opt out of the same certification, provided these clients acknowledge the capital commitment requirements and risk and liquidity characteristics of the fund in question.
Additional Changes Could Benefit Investors
Also critical is making available low-cost, unbiased research on private market fund managers to help advisors and investors make informed choices. The performance dispersion between top- and bottom-performing managers is far greater in private markets than public markets. Fortunately, these private market funds are already well-covered on behalf of institutional investors and family offices. If the eligible investor universe is expanded, it is likely that much of that existing high-quality research would quickly be made available to individual investors and their advisors.
Finally, accredited investors need an appropriate vehicle to access private market funds. Many in the industry have called for the expansion of registered funds to meet this need, but they are challenging to create and administer. As a result, top-tier general partners have little incentive to offer registered products, which limits opportunities for retail investors to access top-quartile managers. Additionally, registered private market funds typically charge significantly higher fees than institutions would pay when investing directly in the same strategy. This erodes the value of private market investments for individual investors.
With relatively minor rule changes, section 3(c)(7) feeder funds, which aggregate smaller investments into a single investment with a private fund manager, could offer a better solution. These funds allow retail investors to participate alongside institutions in private market funds at accessible investment minimums and lower fee structures than registered funds typically charge. Top-quartile managers are far more likely to embrace them – in fact, many already do – because they offer GPs a frictionless way to tap into the retail market. Access to these funds is currently limited to qualified purchasers. If they are made available to accredited investors, it would open the door for more people to invest in high-quality private market funds.
Broadening Access to Private Markets May Improve Outcomes
The World Economic Forum estimates that the retirement savings gap is rising $3 trillion annually and will reach $137 trillion by 2050. Expanding access to private markets would allow individuals to consider opportunities currently outside their reach and may result in better portfolio outcomes. With education about the risks and considerations of investing in private markets and increased availability of high-quality research on funds, private equity could become as commonplace in investor portfolios as public stocks and bonds.
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