By David G. Barry
The Teacher Retirement System of Texas (TRS) has long been a significant player in the private equity sector. The $200 billion system has $35.2 billion, or 17% of its assets, in the asset class. And in 2021, it committed $3.5 billion to private equity – $2.4 billion of which went to funds.
And yet, Neil Randall, TRS’ senior director of private equity, sees the system’s standing in the asset class diminishing. The reason: the growing effort by investment firms to tap high-net-worth and retail investors. Utilizing in-house sales teams, the wire houses such as Morgan Stanley, J.P. Morgan and UBS, and online platforms such as iCapital and Moonfare, firms are finding means to bring individuals into their funds.
“The private equity industry is growing at a rate that’s faster than how much TRS’ commitments are growing in private equity and, as a result, our market position is being reduced in the market,” Randall told the TRS Investment Committee in July. “We’re still a large-scale investor, but from a relative important market position, we are declining, and we expect that to continue.”
The retail segment, said Randall, “is a multi-trillion-dollar market that’s largely been untapped in private equity. We don’t know exactly when this is going to be a big deal, but we suspect that it will be a big deal over the course of the next 10 years. We know that wave will be coming.”
As a result, he said, fund sizes “are going to continue to grow and get larger,” while TRS’ fund commitments are “going to stay the same.” The co-investment space also will see more competition and “just generally capital will be more commoditized,” Randall predicts. To stay competitive, TRS has begun to back more small-to-mid-market buyout and venture firms where it can be a “more important partner,” he said.
No one is ready to proclaim that individual investors are poised to turn institutional investors into dinosaurs. Some, however, do see the potential for institutional investors to lose some of their so-called most-favored-nation rights with general partners.
What everyone agrees on, though, is that individual investors are set to have an impact on private equity and the broader private markets in general. It is, in fact, projected that high-net-worth individuals will increase their capital commitments to private equity at a rate which will outpace institutional growth in the asset class by 2025, according to a report released earlier this year by Boston Consulting Group and iCapital, which has created a platform enabling financial advisors and their HNW clients to invest in private market funds.
High-net-worth investors, according to the report, are expected to account for more than 10% of all capital raised by private equity funds in 2025 and the total assets under management of individual investors is expected to be 2.4 times larger than in 2022, rising to $1.2 trillion.
Hugh MacArthur, who leads Bain & Company’s global private equity practice, said the consulting firm sees the retail/high-net-worth channel as being a potentially significant source of capital, given that individual investors and family offices account for roughly 40% of investable assets and have invested little in private markets.
He said that the emergence of retail investors in private equity has occurred “frankly more [quickly] than I thought.” As recently as a year ago, MacArthur said he thought that “true access” to the asset class was five years away. But now, “it is essentially here.”
The efforts of some of the large publicly traded investment firms to land wealthy individual investors speaks to the potential of this investor segment.
Blackstone, for example, has $233 billion, or 25% of its $941 billion assets under management, coming from retail investors – largely in credit and real estate offerings.
Private wealth accounts for $70 billion of the $491 billion that KKR has under management, said Partner Craig Larson on the firm’s second-quarter earnings call. Included in that figure, he said, is $5.7 billion which comes from its “democratized” efforts of offering stakes in funds to retail investors for much lower amounts. These efforts are currently limited to real estate and credit, but Larson said the firm “expects” later this year or early next year to launch democratized infrastructure and private equity strategies.
Apollo Global Management Co., meanwhile, is aiming to significantly increase the amount it raises from individual investors, having over the past year put together a 150-person team to serve them. During the firm’s second-quarter earnings call, firm Co-President Jim Zelter said that while institutional investors were largely responsible for the $13 billion it raised for its newest private equity fund, global wealth in time will play “a larger part” in Apollo’s fundraising.
The firm also recently launched its first global wealth product – the Apollo Aligns Alternatives (AAA) fund – with $15 billion. Apollo CEO Marc Rowan, also on the earnings call, said AAA has “the potential to be the largest fund across the Apollo platform by this time next year.” In 2017, Apollo closed what was then the largest ever private equity fund at $24.6 billion.
“I believe when we step back and really contemplate what we as an industry and we as a firm are capable of here, the definition and therefore the addressable market, is just much, much larger,” he said.
Institutional investors are, in a sense, partly responsible for the increased efforts by these firms and others – such as Hamilton Lane – to raise capital from high-net-worth investors.
Bain & Co.’s MacArthur said the trend has been “accelerated” by the fact that many institutional investors are at or above their allocation levels to private equity. With private markets firms – especially those that are publicly traded – looking to grow, the need to find new sources of capital has become critical. That, in turn, has led to the efforts by some to build in-house teams to find and attract individual investors. These firms also are developing better products that wealth managers and registered investment advisors can recommend to their clients, he said.
Dan Vene, an iCapital cofounder and managing partner, agrees, saying “private firms have rolled out extremely high-quality and thoughtful products for high-net-worth and retail investors,” rather than just “creating a new share class on an existing institutional fund or a fund that was difficult to sell in the institutional market.”
The Blackstones, KKRs and Apollos, he said, have come to the realization that the institutional capital sources can only grow so much, especially given the allocation issues that public pension funds are facing and the fact that corporate pension funds are less active. They, however, are hardly alone. iCapital currently has some 300 unique general partners – a group that includes newly formed firms who feel they might get better traction with individual investors than large institutions.
Platforms like iCapital and Moonfare are making it easier for both accredited investors to take part in the asset class and for private investment firms to attract and land them. Individuals are generally eligible to invest in the asset class if they have $1 million of household wealth or $200,000 of annual income. Rather than having to invest $5 million or $20 million in order to get into a fund, investors can get in for as low as $25,000 in many instances.
Meanwhile, a growing number of firms, including Hamilton Lane and Fairway Capital Management have created evergreen funds that provide individuals and smaller institutions exposure to the asset class.
Hamilton Lane three years ago launched its Global Private Assets (GPA) Fund, comprised primarily of direct equity and secondary investments, along with direct credit. Initially the fund had an investment minimum entry fee of $125,000 but after partnering earlier this year with ADDX, a Singapore-based digital private markets exchange, ADDX investors can now get into the open-ended fund for a minimum of $10,000. GPA is part of the firm’s broader evergreen platform, which had $2.7 billion in assets as of June 30.
Firm Managing Director Stephen Brennan, who heads private wealth solutions, said the impetus to start the fund was the firm’s desire to broaden access to the asset class, which historically often required a minimum investment of $5 million.
The firm, he said, recognized the “structural hurdles” that made it hard for non-institutional investors to get into private market and went about structuring the fund in such a way to make it “appealing” to high-net-worth individuals, taking into consideration factors such as tax reporting, capital deployment and liquidity. The firm also has sought to tap into its extensive platform and deal flow, giving the fund the ability to take part in co-investment transactions.
“We’re taking the same strategies we’ve used on the institutional side to the high-net-worth investors.” Brennan said the fund has shown Hamilton Lane that there is “significant potential” to tap this market through additional products.
Fairway was founded by a team of five individuals that formerly worked together at funds-of-funds Adams Street Partners. Kevin Callahan, Fairway’s founding partner, said the motivation in starting the ’40 Act fund was providing a “flexible structure” for high-net-worth and retail exposures who wanted exposure to private equity and venture capital. He also felt it made a “ton of sense” because of how “under allocated” to those asset classes that individuals are and the fact that private markets have become a “much bigger part of the investment landscape.”
The fund has to date made 20 investments, with venture capital and private equity funds each accounting for roughly 40% of the portfolio. It also includes a private credit fund, a secondary investment and two co-investments. The initial investment for shares in the fund is $250,000 in its I class shares. The firm plans to launch an additional class with an initial investment minimum of $50,000.
“We love these structures,” said Callahan. “It solves individuals’ challenges of getting access to venture capital and private equity and we thought we could be different with our offerings.”
A chart presented by TRS’ Randall at the board meeting said that the number of private market managers offering a retail product is expected to increase from 9% today to 33% by 2027.
Another reason for the uptick in interest by individuals is that private wealth managers, wire houses and even individuals have grown more comfortable with the investing model pioneered by the late Yale Chief Investment Officer David Swenson, said Vene. Utilizing diversification and alternative assets such as private equity and venture capital, the so-called Yale model has shown to produce greater returns than the traditional 60-40 stock-to-bonds portfolio. It also may be perceived as less risky or volatile, given the performance of equities over the past year.
Vene saw firsthand a year ago what the wealth market is capable of, watching a firm raise some $4.5 billion from private banks and the wire houses on its way toward a $15 billion final close.
But for the sector to reach its true potential, education will be crucial.
Individuals, said MacArthur, need to understand, “why should I invest in private equity?” as well as about such things as potentially lengthy lockups and portfolio company issues. Wealth managers can do some of that, but a lot may fall on general partners, he said.
Hamilton Lane’s Brennan concurs, saying that firms need to show the benefits of asset class diversification and how it can “help the overall portfolio.”
There also will be a need to provide individual investors with specialized products, said Rob Collins, partner, head private wealth U.S., for Partners Group. One of the first firms to tap retail investors, Partners Group attributes $39 billion of its $131 billion in assets to private wealth.
“For these clients, traditional solutions are not always appropriate as they tend to prefer more accessible solutions and have specific liquidity requirements – providing such bespoke solutions at scale will be a key to opening the asset class to more investment from this group,” Collins tells Markets Group.
Assuming that happens, Partners Group expects the private markets industry to grow from around $10 trillion today to $30 trillion in a decade, he said.
The firm is focused, he said, on “democratizing the asset class” and believes that the “public and private markets are swapping roles and that private markets will be the future stewards of growth and sustainability of the real economy.”
Just how much impact institutional investors will see and feel remains to be seen. They are not, however, oblivious to it.
A case in point is the Washington State Investment Board, which as of March 31, had $44.9 billion of its $192 billion portfolio in private equity.
“The WSIB is aware that some GPs are interested in considering new approaches to serving broader markets such as HNW individuals,” said Chris Phillips, WSIB’s director of institutional relations and public affairs. “This is not necessarily a new consideration for them. While we have not studied this issue specifically, this is not creating an impact on our strategies or our strong relationships with our GPs.”
Vene of iCapital said institutional investors could, in
theory, feel the impact of retail investors in several ways. The biggest, he
said, is if the influx of retail investors leads to funds being oversubscribed.
That, in turn, may make general partners less willing to dole out fee discounts
and co-investment opportunities.
“If funds are heavily oversubscribed, then yes, large institutions’ ability to push for fee reductions might change a little bit,” Vene said.
Hamilton Lane’s Brennan said that large institutional investors still have “significant influence” but GPs are accessing the HNW market in a meaningful way, which could, over time, lead to a reduction in co-investment opportunities for institutional LPs.
Others, such as Bain & Co.’s MacArthur suggest that while retail investors will add to the overall pot, institutional investors will still have a seat at the proverbial table. What may transpire, though, is more institutions following TRS’ lead and looking for different investment opportunities.