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- [00:00]
A
Welcome back to Ask the Compound. I'm your host Ben Carlson. Private investments are all the rage these days in wealth management. You got tons of private credit strategies coming to financial advisors. Private equity might be coming to 401k plans. Do you need private investments to have a diversified portfolio these days? We will answer that question and more. Stick around. Welcome back. We got everyone in the live chat. We got people watching live on Twitter. Today's show. Remember ask the compoundshowmail.com today's show answering questions all about private investments. Do you need private investments to be fully diversified these days? How would a recession impact strategies like private credit? Is there a certain level of wealth or sophistication which I've never been a big fan of, but let's just use that word required to invest in private equity and the like these days. What if you just own the publicly traded private equity companies like Apollo, kkr, Blackstone, Carlisle, those kind of things? And finally, it sounds like private equity is coming to 401k plans. What is that even going to look like? All that more today Today's show is brought to you by our sponsors. At Betterment Advisor Solutions. Imagining a better future is a first step. Investing in that future with Betterment Advisor Solutions is the next. Whether you're launching your own practice, looking to streamline your client onboarding, or just searching for efficient ways to scale your firm, Betterment Advisor Solutions is here to help. They automate to make tax optimization simpler. They provide support to make administrative tasks easier. At Betterment Advisor Solutions, they are building innovative technologies all for anyone who's ever said, I think I can do better. So grow your RIA your way with Betterment Advisor Solutions. Learn more at betterment.com advisors that's betterment.com advisors. Investing involves risk. Performance is not guaranteed.
- [01:37]
B
Can I just point out the dedication it takes to travel with a mic arm? I see you actually have your mic arm there.
- [01:43]
A
Oh, this is not just dedication. Now can I have an extra mic arm? I'm from an unschooled location near Lake Michigan and I have a whole other setup here I am. Yeah, that would be tough to make it through somewhere. But yeah, I do these things. We never miss a show, right?
- [02:00]
B
I mean, occasionally we miss a show, but usually not.
- [02:02]
A
All right, let's get to it.
- [02:05]
B
Okay. Up first, today we got a question from Michael. Ben wrote a post called Investing in an Uncertain World. The general takeaway was that diversification is now more important than ever. Are private markets part of the answer? We're going to be talking about This a lot today, but maybe just for our new people here that are new to investing. Just explain what you mean by private versus public real quick, just so they have an understanding.
- [02:27]
A
All right, well, I think we'll get to that in the questions. So we're going to start with the basics and get into the details. So we have a perfect guest for today's show to walk us through the world of private investments. Michael Sidgemore. He has a podcast called All Goes to Mainstream. He has a newsletter of the same name. Michael, you came on Animal Spirits and talk to me. And Michael, I went on your podcast to keep the conversation going. You and I have been emailing back and forth and you actually asked me this question. I wrote a post saying, listen, it's kind of an uncertain world, it's harder to navigate than ever. And you said, well, does that include private investments? And so I'm kind of, I want to hear your case for this and your solution. Maybe you can start with the basics like Duncan said, and just kind of give the people a quick background about what the differences are.
- [03:07]
C
Sure. I'll start at the very top, which is private markets historically have been not stocks that are publicly traded, not bonds or fixed income. So it could be equity, but equity, that's private. It could be things like real estate, infrastructure, secondaries, GP stakes, private credit, a large universe of investable opportunities. Private markets are about 15 trillion or so of AUM today, Prequin Bain all suggest that it could double, give or take in the next six to eight years. So call it closer to 30 trillion. And I think one of the big stories here, and this relates to probably a good portion of your audience and the audience that I've talked to as well, is that the wealth channel or individual investors have historically been significantly more under allocated to private markets. So think about your large institutional investors. That could be large endowments. Things like Yale, Harvard have been in the news because they're selling some of their private markets portfolios for different reasons. In some cases there are structural reasons for that. Large endowments, institutional investors, pension plans, the Canadian pension plans have been famously very active in private markets. Sovereign wealth funds, some of those firms, very sophisticated 20, 30, 40% allocations to private markets.
- [04:33]
A
A lot in private markets. Yeah, they're topped off, right? I don't know. They can go further, I guess. But that's the thing. I guess your point about the growth coming that has to assume that the wealth management channel really picks us up. And what did Larry Fink say the new portfolio is going to be 50, 30, 20 or something. And I've heard 60, 20, 20. Right. And that extra 20 is private something. And you mentioned there's a very wide net. It could mean a lot of different. And I think that's kind of what people are trying to wrap their arms around is, okay, where do I even begin?
- [05:03]
C
It's a great question. I think there's differences based on who you are and what you're looking to accomplish and achieve. So when I think about the wealth channel, the wealth channel actually means a lot of different things. So you think about the wealth channel, it's about 145 or so trillion of assets globally. The institutional channel is actually similarly sized. But like I said before, you know, the many of the sophisticated institutions are 20, 30, 40% allocated to private markets. The wealth channel's like 1 to 2% allocated to private markets. So there's a significant allocation gap between institutions and individuals. That's in part because of regulation. It's in part because of the ability to access these investments has been limited. There's technology and operational challenges managing 50 or $100,000 investments, and a large number of them is structurally challenging for a lot of these firms. And then private markets are a little bit younger than public markets. So it's taking time for private markets allocations to pick up. But I think we've reached the point where alternatives have gone a bit mainstream. And I think it does get to the point of how do you generate returns in the current market? And if you think about some of the things that people like Mark Rowan, CEO of Apollo has said, he makes some really important points. Like if you think about the last 30, 40 years of investing, rates were relatively low. That's no longer the case. You have banks pumping liquidity into the system. That's not as much the case. You just have a lot of structural changes. We've gone from a world of globalization to perhaps a world of less globalization. All of those things, I think, make investing different today than it was years ago. And that, I think then brings us to the question. Well, public markets, if you think about the features of public markets last few years, indexation, correlation and rise of passive and concentration of returns in particularly the Mag 7. But a small percentage of stocks are generating the A, aggregating largest amount of capital, B, generating the largest percentage of returns. That's no longer the case. How do investors, particularly ones who haven't had exposure to the 87% of public companies in the U.S. or sorry, 87% of private companies in the U.S. with 100 million in revenue or more. How do you get exposure to all these other areas of private markets that could be private credit, could be infrastructure? Now I think we're starting to see that open up. So I think the opening salvo on this, this point, I think would be that diversification is one area where private markets can add to an individual's portfolio as well.
- [07:47]
A
So to your point, it's. Yeah, you're getting access to different sized companies, different types of companies. You're accessing them in different ways in different structures. That, that all makes sense to me. I think we're going to. So I think. Let's go to the next question because this kind of drills down to an actual strategy and then we'll keep this conversation going.
- [08:03]
B
Okay. Up next, we got one from Mark. Can you address how you anticipate the tariffs and the potential recession that may result could impact private credit? How large is the private credit market and what might happen if there's a significant wave of defaults? Is there a risk of some unforeseen systemic issue? Could it trigger a cascade of liquidations? Or is private credit still small enough, a small enough part of the market that it wouldn't have a major impact?
- [08:29]
A
So I think if you have a financial advisor who's made a push into alternatives in recent years, I'm guessing private credit is a piece of that because that's been a huge. It seems like it exploded kind of out of nowhere. It's been building for years coming out of the great financial crisis. But I think it's also probably the easiest strategy for people to understand because it's, look at the yield, right? You're earning 10% or 12% or whatever it is. These are loans. These are private loans. They're not like publicly traded fixed income. But that's kind of the idea here. That angle. This is probably the exposure most people are getting through the wealth management channel. And a recession is the most reasonable risk people have been pointing to for years. Now, it's also worth pointing out that a recession risk is probably bad for most asset classes. So just saying, like, hey, if a recession happens, private credit might get dinged. I don't think that's a novel statement to make because most asset classes are going to get hurt. But I guess I just like to hear you kind of go through the pros and cons of private credit and what could be the risks that people aren't thinking of when they just look at these yields and they go, oh my gosh, this yield is amazing. It's way Higher than I'm getting in fixed income. Why would I not put more money in here?
- [09:36]
C
First, let's start off. I think the questions that were asked are all great questions. I think it's important to think what might happen in current market environment. But if we take a step back, private credit five, six years ago was in the hundreds of billions of dollars. It's now about $1.7 trillion of total AUM. That's still relatively small in the overall context of the global fixed income. Torsten Slok from Apollo put out a chart. This was a little while ago, so maybe it's a little bit outdated. But global fixed income, public markets like 100 trillion. So just put that in context. Private, private credit is still much smaller part of the universe. Two other points on this. One, private credit is projected to grow in size and scale. So everyone from Aries, Blackstone, Apollo say it's anywhere between a 20 to $40 trillion marketplace. If you think about some of these other things that could be that are on a bank balance sheet that could be financed by private credit. And many of these firms have said that there's kind of this blurring of the lines between what could be public credit, what could be private credit and why.
- [10:45]
A
Sorry, I'm going to stop here. And that's the most important point, is that this is something banks were doing in the past. Then some regulations came in from the 2008 crisis and now it is companies like Apollo and Blackstone and these big private equity companies that are making these loans that banks were once making. That's where it all came from to some extent.
- [11:01]
C
I mean, I think a lot of private credit has been sponsored driven private credit. So private equity firms also, when they invest in companies, they also want to take out debt to help their companies grow a little bit of leverage. Some firms use more leverage than others, but private credit kind of started there to some extent. Now it's thinking about other parts of the bank's balance sheet. I think it's worth noting that a lot of the firms that are big in private credit have noted that in some senses, taking some of this exposure off of a bank balance sheet is actually lessening systemic risk. So that's one perspective. There may be others who have a different.
- [11:41]
A
You're not putting deposits at risk or something here, right?
- [11:43]
C
Yeah. And if you think about it, I think some of the larger firms again have made some very good points around. You're matching long duration capital with you're borrowing. Instead of borrowing short, lending long, you're borrowing long lending Long. Right. Because if you think about it that taking depositor capital and then putting that into private credit or some sort of credit instrument, you're matching duration a bit better. So I think there's some merit to that argument. I think that's important to note when you think about private credit and the role that it could play in the ecosystem. And again, still 1.7 trillion. It's not at a point where it's of the size and scale of the global fixed income market, et cetera. I don't want to minimize the potential issues that private credit could have if underwriting is not done well.
- [12:36]
B
Sure.
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C
I think a, a market environment that impacts small and medium sized businesses could certainly have an impact on private credit and those who don't underwrite as well.
- [12:47]
A
Right.
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C
I think that's where underwriting will be. Key firms need to figure out how to be insulated from that. I think in many respects it's the larger firms who have the resources and ability and scale, both on the investment team and the sourcing side and on the data and underwriting side, they should in theory be in better places to be able to underwrite. Now there's also an argument that certain smaller firms, because they, they have less capital to put to work, might be more judicious with what they're underwriting, when and how. So I think there's nuances to the, to the underwriting of private credit managers. Right.
- [13:25]
A
And that's the recession risk. Right. Is that the worst loans are going to be dinged? I want to get on the leverage too, but Dave in the chat asked how are the fees of private credit versus public credit? So maybe you can walk through the fees and then when you see a juicy yield from a private credit strategy and it says, I don't know, 12% or 10% or 14%, are those fees net of, fee of, are those yields net of fees or they gross fees?
- [13:48]
C
Depends on the manager and depends on what they're showing. I mean usually I think of.
- [13:54]
A
Many.
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C
Private credit strategies as generally high single digits, low double digits, net of fees. And that's to some extent the promise is for the risk that you're taking, are you getting excess return? Because in many cases you're probably also taking illiquidity risk with private credit relative to public credit. So I think those are things to consider when thinking about private credit. But if you, if you don't need the liquidity on a daily basis, and this is again something Mark Rowan has talked about, he brings up an interesting question which is even in Public credit, can you really get liquid in certain parts of the public credit universe? Is it daily liquid? Some cases probably junk bonds or something like that?
- [14:37]
A
Yeah.
- [14:37]
C
And if that's the case, how much liquidity do you really need the next day? And then I think that brings the question of private credit. Does private credit have some place in the portfolio? Again, that's different for different clients. There's different segments of the wealth channel. An ultra high net worth family office with a billion dollars that has significant amount of liquidity. They should be allocated differently to private credit and private equity for that matter, relative to a mass affluent client with a million dollars. But maybe that client should have some level of exposure to private money.
- [15:10]
A
But back to the fee thing. It tends to be a management fee which could be, I don't know, 1 to 2%. And then there's maybe a hurdle rate in saying after a 6% return, then we're going to take 20% of the profits. Is that generally how those fees work?
- [15:22]
C
Depends on the fund. And then there's also often leverage. So the firms will pay, they'll have to pay a fee to get a line of credit from a bank to put leverage on it as well. So there's fees associated with that. Now in theory, the leverage should also put more turns on the capital. So that should net out to some, some return. But yeah, I don't, I don't want to speak to specific returns because every firm will do it a little bit differently. But I think the promise is generally high single digits, low double digits, depending on the risk you're taking as well. I mean, certain parts of the private credit market might be a little bit higher returns, but it's generally that kind of high single digit, low double digit type returns. I think it's worth calling out though, like adding some level of private exposure here may dampen volatility a little bit. Now I think the other side of the argument, which would be a very fair one, is how are firms marking and how frequent are they marking? So that would be the other side of it. But I think there's BlackRock Partners Group put out a white paper that was related to the launch of their model portfolios. And when you add private markets to a portfolio, it Increases return by 100, 200 basis points in their model, but also dampens volatility by 100, 150 basis points.
- [16:41]
A
Yeah, I want to get into the illiquidity thing in a minute. Let's go to the next question. Then. I want to get into illiquidity on the next one.
- [16:46]
B
All right, up next, we got one from Ryan. I'm 35, married with two kids and have about 1.5 million invested across accounts, mostly in mutual funds, ETFs and individual stocks. At what point if ever do investments in private real estate, private credit or private equity through interval funds or BDCs? BDCs Business Development Corporation. Is that right? Okay, got it. Makes sense for someone like me asking selfishly to understand if it's something I might consider to diversify my portfolio.
- [17:16]
A
Okay, good question. So I think the idea here is some people think, well, if I hit a certain level of wealth or complexity, are private investments the next step? And I guess the one question I would ask you is my background in institutional investments was there was a lot of institutions that definitely had the understanding and the know how and the expertise to invest in private assets and it made sense for them. But there was also a lot of these endowments and foundations and pension funds that I saw that didn't have the level of expertise, couldn't handle the operational aspects of it, and they shouldn't have been investing in them because it was just, it was outside of their bandwidth and their expertise. So I guess my question to you is one, who should avoid private investments? And two, do you think for the retail channel it requires a financial advisor to get started?
- [18:04]
C
So good questions. I'll hit the first part first and the second part about should it be advisor led? Which I think certainly to date it's been much more through advisors and advisor led than it has been on the individual base. Although that's now changing. Schwab just rolled out an alternative investment platform for their qualified purchaser clients on the brokerage side, 5 million net worth and above. And those clients will be able to access it through the Schwab platform. So I do think it will come to the individual investor. Then the question becomes how well are both advisors and, and, and individual clients or direct self directed clients educated, but kind of first like why private markets? I think this gets back to a few of the features of private markets. So to Ryan's question, he asked a really good question, right? Like I'm in effectively he's long equity markets. But if we go back to what we were talking about earlier, what do equity markets have features of? There's indexation, correlation and concentration amongst the MAG7 and if he's in mutual funds, ETFs and individual stocks, I don't know what his portfolio looks like. But I'd imagine there's actually a bunch of overlap and he's also missing out on the diversification of some exposure to private companies. Not just in the U.S. globally, look, I mean recently, right. You think about equity markets in Europe as an example. They've done well, presumably like having some exposure to European private equity. Maybe that makes sense if you believe that you need to have diversification and kind of exposure to other parts of the world. So I go back to one, the diversification piece. Private markets has over long periods of time tended to outperform. And again I'm talking more about private equity than other parts of private markets. But over 10, 15, 20 year periods, private equity has tended to outperform. There's good charts from Hamilton Lane or Bain that show and illustrate that now will the future look like the past? That's hard to tell. But I think if you do look at the past, then that can perhaps provide a framework for why outperformance can make sense now. The one important thing to note there is manager selection really matters. Even more so than in public sectors.
- [20:24]
A
Yeah, there's a wide range of outcomes between the top and bottom quartile as opposed to fixed income or equities where they're pretty bunched together. There's certain ones that do better. But the outperformance in private investments, if you're not in the best funds or call the top half or top quarter, your experience is probably not going to be great.
- [20:42]
C
And that's even more protracted when you get to areas like growth, lower middle market, private equity venture. Which is why in those areas fund to fund strategies have been very popular with many investors. Even some of the institutions that you mentioned will use fund of funds to access lower middle market private equity or venture in part because the institutions might have to put $100 million to work. And you can't write a hundred million dollar check into a $300 million fund because you'd be much you'd relative to the rest of the LP base. But you know, I do think that that leads to the second question about the, the professionalization aspect of this where allocating to professionals, whether that's fund of funds platforms. I think in certain parts of private markets people who are doing this every day know the market really well, know the managers underwriting them, have professional diligence backgrounds. That's important. The platforms that are also cropping up have vetting mechanisms and capabilities that some of them have marketplaces which are funds are on the platform and firms, advisors, in some cases individuals can decide which funds they want to invest in and.
- [21:50]
A
They'Re Making it easier too. My big thing, and I talked to you about this on your podcast, was I saw how hard it was to operate a private equity venture capital hedge fund book when I was working for endowments. And because I was the sucker at the low end of the totem pole who was having to follow all these things and track them and follow the cash flows. And I saw how operationally challenging it was and I thought there's no way an individual or an advisor can do this for all their clients. And of course the Wealth Management Channel knows this and they've made these interval funds and they've made it easier to access. It's not the same type of strategies. Now there's pros and cons with the different types of vehicles. But obviously these managers know we have to make it easier for these firms and these clients and wealth managers to access this stuff. So that stuff has come a long way, I'd say in the last 10 years or so as well.
- [22:36]
C
100%, I think that's been one of the big innovations is evergreen fund structures. So these are these open ended fund vehicles versus closed end. So historically many private equity private credit vehicles have been closed end funds. You commit, there's generally a J curve, meaning the funds are calling capital to make investments over a defined period of time. Usually.
- [22:58]
A
Right. You don't just give all your money on day one like you do for a mutual fund or etf it calls as they're making investments investments, which that's.
- [23:04]
C
Part of the challenge for individual investors is how do you actually model out how much liquidity do you need at any given time? And also where do you put that additional capital? So the capital that you're having weight to allocate to that private equity firm, as they call capital over a three year period. If you keep that in cash, that's a drag on irr. So the pitch that the firms who've created Evergreen funds have is you're invested 100% on day one, so your money's put to work. So in theory, you should be compounding your capital at a faster rate, even if the returns are potentially a little bit lower. On an IRR perspective, KKR has put out some papers on this, Goldman's put out papers on this.
- [23:45]
A
And that's another thing that evergreen versus evergreen individuals trying to understand IRRs in the first place too. I'm not sure many institutions understand how the IRR is compared to a regular compounded. So that's a whole other thing. And maybe we're getting too into the weeds Here. But yeah, And I guess the other thing I just wanted to ask is who should not be investing in these? And I guess my first line of thinking is, listen, if you don't understand these strategies, they're not for you. And I think that's the big. I think that's the first line where you can say, listen, if I don't understand how they work, I don't understand how illiquidity works or the fees or the structures or any of this stuff, how I get my money back and how I put it in. If it's over your head and you don't understand it, I don't think you should be investing in this stuff. Is that fair?
- [24:21]
C
100%. I think that's why you're seeing so many firms make such big investments in education and you're starting to see that education go mainstream. I mean, if you are on. On LinkedIn or Instagram and you follow Blackstone, you see them having, you know, short videos to try to educate. And yes, you know, some of these videos are also meant to be entertaining. But I think they're doing it in a way to help people understand what private markets are and humanize them a bit. So I do think education is critical, whether in short form or long form. But that is, I think the first step here is one need to understand the space, understand the products related to that, too. I think that advisors and even alternative asset managers and traditional asset managers who are getting into private markets should be really judicious about who they're working with, because you don't want anybody to have a bad experience, especially if it's their first time going into private markets, because that doesn't benefit anyone. So I think, like things like illiquidity, Ryan, in this case, he needs to be okay with some level of illiquidity. How much capital does he need to be able to live his life? Because if that money is locked up even in an evergreen structure, which, by the way, some people call them semi. Liquid. I don't like that term because the reality is it's not necessarily liquid. There may be.
- [25:43]
A
Hang on, let's.
- [25:44]
C
I want to interpret.
- [25:45]
A
I want to talk about the illiquidity. So, Duncan, read the next question. And that's what I wanted to talk about, liquidity with this next question. So read the next one. We'll get into this.
- [25:51]
B
This one's from Kyle. I was wondering if an investor even needs to worry about owning private equity directly, since publicly traded private equity firms are included in ETFs like SPY and BTI.
- [26:04]
A
Okay. So I think you could make the case that, hey, owning the private equity managers might offer better returns even because they earn the fees. Either way, the performance, you know, obviously they get performance fees. But the one that I would say is the big difference here, of course, is the liquidity. Right. You're still investing in liquid public companies even if you're investing in those business models. And again, those could end up being better investments. So I want to walk through the illiquidity of private assets and you mentioned it, that hey, it could be dampening the volatility cliff, as this calls this like volatility laundering. Right. Because you're not getting the marks. You know, they might be marking on a monthly basis or a quarterly basis and it might be on a lag. So I think you have to get used to that. And to your point about getting the money out for an interval fund, a lot of these funds have the rule that, well, on a quarterly basis you can take. We can Redeem up to 5% of the fund. Right, Something like that. So I think it makes sense because you don't want everyone rushing to the exits all at once. But you have to think about the fact that it's harder to rebalance and you can't access the funds in a hurry if you need to. And it's kind of maybe harder to understand exactly what you own because they're not marked all the time. So I think for certain investors, that's a positive. If you don't have to see. Right. If Duncan doesn't see his oatly shares priced, if he sees it like once a year, he's going to be happy because he doesn't have to see it go down every day. So I'm just curious if you could walk us through the pros and cons of illiquidity, because I think there are good parts of it where this is one of the reasons people are able to buy and hold their house for so long, because they don't have to see the price every single day change on a tick by tick basis.
- [27:26]
B
Can I also tack onto that when you say illiquid, how often can you take money out of most of these? Like once a year, every quarter? What is the average probably?
- [27:35]
C
Well, first of all, I just want to say I would love to see Duncan's heart rate if he's in private markets versus not in private markets.
- [27:42]
A
Knowing market, I had to get a.
- [27:45]
B
Shot stopped in pre market trading this morning. So get halted.
- [27:49]
A
Yeah, you don't get stopped out in private Assets, right?
- [27:52]
C
Yeah. No, Duncan, really important question. So there's different types of structures that are under the evergreen structure definition. So there's interval funds, there's tender offer funds. These funds based on the way the firm decides to structure them. There in some cases are boards who decide who's actually when investors can get liquidity, some of the funds will have intervals at which people can actually purchase existing investors, investors holdings or portion of it at Navigation Sometimes the funds have the ability to purchase at a defined period of time at the firm's nav. But I think the important point here for investors is that you can't necessarily rely on that being liquidity. If you believe that is liquid, I think then you're probably going into this investment with the wrong mindset. You should think that this is. It's private markets. So it's more illiquid with the possibility of some level of liquidity at different time frames if all the right features work out. So because there may be a time when to Ben's point, a lot of people might want to redeem. Now that might be the wrong time to redeem. It might not be good for the fund if everybody redeems. But if people want the liquidity, then you have to figure out how to sort through all of that. So that I think where that is where some of the challenges come in and where I think investors should still have the mindset of this is a more illiquid exposure or illiquid asset class. And this is not where I should be thinking I'm getting the money that I need tomorrow or this week or.
- [29:34]
A
Yeah. Match your, match your assets with your liabilities or your assets with your time horizon here. Right. You shouldn't be expecting that. I'm going to trade in and out of this stuff and get it if I need it. Just like you would with your house, essentially.
- [29:44]
C
Yep, exactly. And I think that gets to the other point you were talking about, about having exposure to private markets in a proxy form through owning these asset managers directly or through spy. Certain managers, Blackstone, KKR, Apollo, are part of the S&P 500. So you do have some exposure there. And I think it's worth spending a moment on that because these firms are all fantastic businesses. Yes. They have some exposure to broader markets. From a private markets perspective, there's ebbs and flows of private markets, not to mention public markets. If public markets go up or down, there could be impacts to their stock price that are not necessarily related to fundraising. I have a chart on Altcos mainstream where every week I'll show the market caps of the publicly traded firms and then I will show their flows as well. So the fundraising flows that they have. And it's interesting because the past eight weeks or so since the markets hit a bit of turbulence, the market cap year to date has all been red for the most part. This past week was actually green for some of the managers over the past week, but their flows have gone up. So I think that's worth thinking about. Like these managers are likely going to continue to grow aum. Now we can ask the question, will they grow a, um, as much as either they're projected to or as we might have thought last year.
- [31:27]
A
Yeah, a lot of it could be due to expectations, not necessarily just the, the, the numbers themselves but over the long term.
- [31:33]
C
And I did a podcast with Evercore Equity Research analyst Glenn Shore on this where we were just trying to separate the forest from the trees long term. If these firms like eqt, a publicly traded firm that started in Stockholm, is now Global Alternative asset manager, about 270 billion euros of AUM, they're planning to raise $100 billion in the next fundraising cycle. If they grow their AUM, the business will be a better business. I think same for Blackstone Apollo. Blackstone has a trillion of AUM. 250 billion or so is from the wealth channel. They will continue.
- [32:10]
A
You can calculate those management fees, right?
- [32:12]
C
And it's contracted, contracted management fees. I mean I do believe that asset management business models are fantastic. Alternative asset management business models. The closed end funds are 10 years of contracted fee revenues. Right. People commit to a fund, you know, you're getting management fees that are generally between 1 something percent and 2% for 10 years and then usually people re up and do the next fund and then these evergreen structures, it's based on nav, so it's lower annual fee, it's not going to be 2%, it's going to be closer to 1%. And certain larger investors may get better fee concessions. But you're still getting, if you're a 10, 20, $30 billion Evergreen Fund, you're making 1% on NAV and it's relatively permanent capital, quote unquote.
- [33:03]
A
And that capital's growing. Even you don't have new money coming in.
- [33:06]
C
It's getting bigger, growing and as the NAV grows of all the underlying investments. So these businesses are fantastic businesses. So yes, there is a reason to believe that having exposure to the managers themselves is one way to have exposure to the growth of private markets. Now to your point earlier, you're subject to the vagaries of public markets and the indices and people may trade in and out of these names on short time horizons. Even if like over a three to five year period the returns might be might end up looking different or the business might end up growing. I mean, if Apollo grows From, you know, 750 or so billion of AUM to one and a half trillion over the next four or five years, the business is in a better place than it was before. I'd imagine at some point the market's going to reflect that. Now we can debate whether or not alternative asset manager multiples, the valuation multiples they have on EBITDA or aum, are those at the right place. That's a debate for public security analysts.
- [34:08]
A
This is the thing that makes it hard though, right?
- [34:10]
C
Exactly.
- [34:11]
A
It's why you're not getting the exact same exposure for the diversification. I guess you're still getting pieces of the stock market but you're not paying fees.
- [34:18]
C
So there's pros and cons to that. And that's where I think the private markets piece comes in is, and this is how I've thought about it, is it's worth having exposure to the growth of the industry. That could be through the publicly traded managers or through GP stakes where you're owning minority equity stakes in privately held alternative asset managers that are on a path to either going public or part of this consolidation trend happening in the industry, as well as investing in certain private market strategies which may have some level of diversification. We can get into the volatility question as well, but I think that's kind of zooming out. Taking a step back, thinking about it holistically is worth thinking about this trend of private markets becoming more mainstream before we get to the nuances of specific strategy.
- [35:01]
A
Duncan, are you buying leaps on KKR at the moment?
- [35:05]
B
Not at the moment. I was invested in Blue Owl along with Michael a while back, but I'm not anymore.
- [35:12]
A
All right, let's do one more question. This is a good one.
- [35:16]
B
Is this from you, Ben, or is this another Ben?
- [35:18]
A
No, this is for me.
- [35:19]
B
Okay. I was like, this sounds, this sounds like a very bent question. Okay. I keep reading stories about private equity funds making their way into 401k plans. I'm torn on this one. On the one hand, a tax deferred retirement account seems like the perfect place for private investments in terms of the time horizon and illiquidity. On the other hand, do we really think 401 investors have the ability to understand these types of Investments.
- [35:45]
A
Yeah. So this is actually a plant question for me because so we just had the big Bloomberg piece where they looked at private equity and they said it's probably coming to 401 plans and they're talking about senators and government is like they're looking to make this easier to do. So I have a couple questions here. What does this look like if and when it happens? And my thinking is this is going to be in a target date fund maybe. So let's say we have in a target date fund, well, 10% of your portfolio is in private equity and then maybe 5% is in private credit or something. And that's part of the overall target date plan because this manager is managing it for you or is it, hey, there's two or three interval funds that are coming from one of these huge private equity managers and then you have the ability to access them and go into them on your own. What do you think that is going to ultimately look like?
- [36:38]
C
It's a great question. So this is actually pretty timely because the alts managers, a number of them had their quarterly earnings calls. So KKR Blue Al Apollo last week and both KKR and Apollo's CEOs in case of KKR Co CEO Scott Nuttall and Mark Rowan from Apollo mentioned and talked about retirement plans and target date funds. So I think we, it's worth asking the question are we closer to that than we might.
- [37:09]
A
And Vanguard's talk about it too, right? Even Vanguard has mentioned that we're thinking about getting to this space.
- [37:13]
C
Vanguard. So. So they're already in the space. They have a partnership with Harbor Vest where they have a private fund for the, I believe the qualified purchaser community. So 5 million net worth and above. And then they recently announced that they're doing a partnership with Wellington, the long only liquid manager as well as Black Blackstone to create a public private portfolio, presumably. So it hasn't been announced on what the details are, but this is part of a wave of partnerships. KKR Capital Group, Apollo State street, various products and partnerships, BlackRock Partners Group on a private markets model portfolio. So I think to answer your question, that's kind of like the backdrop to the answer of your question.
- [37:56]
A
So I didn't realize that those, those managers had mentioned Target 8 funds specifically. That to me makes the most sense. But getting back to the other part of the question. Do we think 401k investors will understand this and what are the 401k providers going to do on the education side of this?
- [38:12]
B
Can I push back on that? Ben do you think the average 401 person understands their mutual funds and how target day funds work? I don't think people care. Right. They just want to make money.
- [38:23]
A
That was the story in the Wall Street Journal this week, was that the median person spends six minutes researching a stock before they buy it. Right. So most people, yeah, probably don't think too deeply about this. So that's my concern. The other, the other thing is, though, well, you know, we're going to give you the option, and if you want to do it, you can do it. If not, then don't do it. Right. So it's going to be like the option will be there. We're not going to try to save you from yourself. If you would like to do this and you think you understand it, then great. But I do think the Target Date fund probably makes the most sense now. What do you think the timing of this is like? How far away are we from this happening?
- [38:57]
C
I think, one, there's regulatory questions that will have to be worked out. I think firms are pushing on that. Two, I think you have to have the valuation question worked out. So how do you value assets in private markets? There's a lot of innovation happening on the technology side about how do you create more real time and accurate valuations on private markets.
- [39:22]
A
And especially since a lot of 401k investors, they look at the last 1 3, 5 year performance numbers and say, oh, I'm going to buy that fund. Right. And if those numbers are stale, it's going to be harder for people to even. That's not how you should make your investment decisions. That's how some people do it. Right, of course.
- [39:37]
C
And I think on that point, something happened this week which was interesting, which is Morningstar announced that they're going to roll out ratings for. They do this in public markets, obviously, mutual fund and, and ETF fund ratings. They're going to roll out ratings for Evergreen funds and interval funds in private markets, which I think that's important for the industry. I'm sure others will probably try to do this as well. But then at least people have a framework and a guide for how to think about certain funds. The differences and to your point, make it easy. I think the make it easy part is an important one. It's not without nuance, which is it has to be for the right person at the right time and done in the right way. I want to be very clear about that. But I do think private markets is headed for a way where you make it a lot easier. I think model Portfolios will be a part of that. I think models might be the easiest way. If you can figure out how to get models or multi manager solutions into target date fund or maybe these hybrid products, I think that might be the precursor to all of that is if some of these hybrid products of public credit, private credit that an Apollo State street is doing or KKR Capital Group is doing, I wonder if that starts to end up in some of these funds. We're early days on that and I think it remains to be seen how those products will work mechanically. And also how do you think about the mix of public and private. But I think we are headed there. I think it's also worth mentioning too there is a whole universe of the retirement space called self directed IRAs where the whole point of self directed IRAs is that people can allocate to private markets investments through their their IRA account.
- [41:22]
A
Right. If they want to do the interval funds and those type of things already they can, they can do that.
- [41:26]
C
Or even real estate, private equity funds, private credit funds like true closed end vehicles and a lot of these platforms have enabled that to happen. People have invested directly in funds through their ira. People have invested in startups through their ira. I think the headliner, the famous one was Peter Thiel after he made money, I think it was on PayPal, put a bunch of that in his IRA. His IRA grew to over $5 billion.
- [41:49]
A
Yeah, Roth, what was that as a Roth?
- [41:53]
C
Yeah, exactly. But he was investing in a lot of private markets instruments so it could have been startups. I'm sure he made other investments and funds, et cetera. So there is a world of retirement account investing that has had private markets as a component of it. Now that's obviously not the 401 world. I think it is coming. The comments that these firms made and I wrote about this last week did make me wonder whether or not we're closer to that than it might seem.
- [42:25]
A
Yeah, no, I think it's whether you like it or not or whether you understand it or not, this stuff is coming for the wealth management channel because the firms are making a push, because advisors are making a push. And I think just the access is going to be there. So I think my big thing is just do your homework. So one way you can do that is subscribe to your newsletter. Why don't you remind everyone where that is?
- [42:43]
C
Again, it's altgoesmainstream.substack.com yeah.
- [42:48]
A
And you provide a ton of information in there on your weekly basis. It's great. You really put a lot of thought and effort into it, so check that out. Check out the podcast as well. Thank you for coming on the show. This was great. I think we've been getting a lot of questions on this, so this was helpful to everyone. We got a lot of questions in the live chat as well, so our email here is ask the compoundshowmail.com if you have other questions, please email us. Leave a question on YouTube. Thanks for following along live on YouTube and Twitter and we'll see you next week.
- [43:15]
B
See you everyone.
- [43:16]
C
Bye everyone.
- [43:19]
D
Thanks for listening to Ask the Compound. All Opinions Express by Ben Carlson, Duncan Hill and any of their guests are solely their own opinions and do not reflect the opinion of Ritholtz Wealth Management. This podcast is for informational purposes only and should not be relied upon for any investment decisions. Clients of Ritholtz Wealth Management may maintain positions in the securities discussed in this podcast.