In late January, I noticed multiple Bloomberg interview notifications (here and here) from the International Private Equity Market conference in Cannes. I was surprised that they were surprised by the comments made. Or rather, I didn’t feel like they were news at all.
My immediate thought?
We have the leader of Distribution (Sales) for a Private Markets Firm, at a Private Markets Conference, talking about how we are in the golden era of Private Markets. Shocking!
Imagine this: I’m the leader of AI Distribution (Sales) at an AI firm. I go to an AI Conference. I state, on stage and in an interview, that we are in the golden era of AI. Yay! What a revelation. This is somehow breaking news and now everyone is excited to buy AI. Woohoo!
Now that we’ve got that straight, let’s talk about the gold mine of a business that KKR, Apollo, Blackstone, and Carlyle (among others) have paraded into over the past few years.
The Pitch: Private Markets for the Masses
The pitch is incredibly enticing:
These are the coveted deals that only the most sophisticated investors have had access to—until now.
But wait! I, your knight in shining armor, am here to deliver them to you, the masses, out of the goodness of my heart (and for a measly fee of 4% per year).
How do you think the ultra-wealthy, the sovereign wealth funds, and Yale’s endowment made so much money? Now you too can access these exclusive investment opportunities!
Sound enticing? Sure. But here’s the reality:
Their disclosures are minimal, their profits are maximal. They’ve shielded themselves from the pitfalls of investor behavior via redemption limits (think about this as a gate that can be slammed shut at any time, with you having little way to get your money back).
And while many, myself included, view this as a reasonable safety feature (I’ll elaborate further in a future edition of FCP), these alternative managers have created a sort of Chinese finger trap for investors: simple and easy to enter, but quite precarious on the exit.
The “Quality Manager” Playbook
Another highlight that constantly comes up in my interactions with representatives from these firms is:
“You must be picking quality managers.”
Woah, what a novel idea!
“Still, returns in private markets can vary much more widely than those in stock and bond markets, with the quality of individual managers playing a far greater role.”
“The biggest issue in private markets is how do you find the who” Wood added. “There are thousands and thousands of managers—in the U.S. alone there are more private equity funds and more private market funds than there are McDonald’s.”
If I may continue the insinuation:
And since I, myself, am aware of this and telling you this and would never be selling on behalf of a low quality manager, that puts my firm squarely in the quality manager camp.
Not a direct quote—just my interpretation. But hey, if they just say “you need to focus on the high quality managers” enough then everyone will believe they are a high quality manager—right? Otherwise, why would they say it? 😉
What Happens When the Tide Goes Out?
Lastly, I’ve had trouble finding a representative who can explain to me how their product might go sideways.
If we know anything about investing, it’s this: If it sounds too good to be true, it’s probably too good to be true.
It might take 10 weeks, 10 months, or 10 years, but sooner or later, to paraphrase Buffett, the tide goes out and you see who’s swimming naked.
In private credit, for example, there will be managers that make bad loans. When the economy contracts, those loans won’t be paid back. Some will suffer, others will recover. But what irks me is the unwillingness to acknowledge that as this asset class explodes into the wealth channel, there will be more and more money chasing fewer and lower quality deals.
At what point does this adverse selection come home to roost?
CONSIDER:
This coming Thursday and Friday are my favorite sports days of the year as the NCAA Tournament (March Madness) gets underway. I couldn’t help myself but to make a connection:
There’s a well understood concept in basketball called “setting a screen,” which involves an offensive player intentionally positioning himself to block a defender’s path so that his teammate can elude his/her defender and receive the ball. This idea is the basis for much offensive strategy in basketball.
On the surface, you might think the player setting the screen is sacrificing their body for the good of the team. In reality, the defense is often so occupied with guarding the offensive player coming off of the screen that the screener ends up being open. This is why good coaches tell their players, “if you want to get open, set a screen for a teammate.”
It’s this funny subtlety in the game that the selfless player sometimes will end up benefiting the most. I’ve found this translates off the court as well, with one example being the lost art of writing thank-you notes. Not the obligatory note thanking someone for a wedding gift or the note that says thank you, it was good to get to know you, best of luck…but the one that illustrates the impact that person had on you, the specific interaction or point where a connection was built, or the random occasion that you cherish for reasons you can’t quite put your finger on. Receiving an authentic thank-you can fuel a recipient for days, if not weeks. And yet, expressing gratitude and reliving the moments that brought us the most joy can do even more for the writer’s psyche. At least once a week, set a screen for a teammate!
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Let’s get after it this week!
Brooks
Brooks Palmer, CFP® is Head of Investments at Root where he helps identify, evaluate, and implement the best investment solutions tailored to clients’ needs. In Full-Court Press, he breaks down what’s happening in the markets—cutting through the noise and jargon—while connecting it to Root’s core investment tenets so you can make the most of your money and your life!