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The Alternative

 Quests for returns lead to private illiquid investments

By Julie Neitzel

Over the last several years, investors have been fatigued by public securities markets’ modest returns and high volatility. With global economic growth tepid, and interest rates and inflation at historic lows, public markets have produced modest single-digit returns.  And consensus forward expectations don’t point to meaningfully higher returns.

The current state of the markets is frequently described as “stay lower longer.” During the days of double-digit market returns, a common investment goal was to double one’s money every 10 years. This could be accomplished by generating a 7.25-percent annual return. Recently, most diversified public market portfolios have produced low single-digit annual returns, or even negative ones, pushing the “double your money” goal out to 15 years or longer.

The conundrum for investors is how to increase overall portfolio returns in the current environment. One possibility to discuss with your financial adviser is an allocation to less-liquid private investments, or “illiquids.”

Illiquids typically include private equity, private credit and venture capital funds, and direct investments in real estate, operating businesses, early stage companies and other sectors.  Given the current global interest in illiquids, there is a substantial private equity industry of more than 4,000 global private-equity firms aggregating more than $2.4 trillion in capital. The ongoing growth of this industry correlates to institutional and individual investors’ continuing desire to generate better-than-public-market returns.

Illiquids, similar to public-market investments, involve the possibility of losses and other risks. By definition, illiquids cannot be readily sold – sometimes for many years. That requires the investor to consider them as “patient capital investments.” In other words, they typically have a longer investment period to deliver the expected higher return.

Unlike a public market bond, the timing of return on capital and return of capital is not typically the subject of a covenant nor pre-determined. Assessing the investment merits of illiquids is more complex as public financial information generally isn’t available readily, and the due diligence and financial/investment analysis requires experience and skill. The documents and legal and financial structures used for illiquids are complex, which can create investment structure risks.

How illiquids are priced and sold is another important consideration. Typically, illiquid managers require an investment of $1 million or more. Private banks and brokerage firms generally receive a fee to introduce their clients to private equity funds and other illiquids. Certain family offices have created a business of establishing investment pools for illiquids, inviting outside investors to participate in their investment product. Other family offices have created exchanges, such as ShareNett, that allow them to directly communicate and invest alongside like-minded investors, creating “club deals” for illiquids, while regularly assessing and sharing direct investment opportunities.

Some multifamily offices regularly review illiquid opportunities on behalf of each family and portfolio. As with all investment products, it is essential to determine if the introducing party is being compensated for a sale of the investment and whether the investor’s investment goals are aligned with the particular illiquid opportunity. When considering an illiquid investment, it is critically important to have proper guidance, given the relative lack of transparency and the illiquidity of your capital for 10 years or more.

Notwithstanding these complexities, research shows that about two-thirds of ultra-wealthy individuals are investing in private-equity funds and other direct investments. During 2015, wealthy individuals invested more than $178 billion in commercial real estate. A study from Tiger 21 revealed its ultra-high-net-worth members are increasing their private-equity allocations to 23 percent during 2016. An allocation to well-managed illiquid investments has historically delivered a premium to public-equity returns in a portfolio, with a reasonable amount of risk.

The sizing of the illiquid allocation is important and should be based on an investor’s tolerance and financial capacity for illiquidity. Illiquids are not for every investor and should be thoughtfully considered and discussed with your advisers before you invest.

Julie Neitzel is a partner and advisor with WE Family Offices in Miami and a board member of the Miami Finance Forum. Contact her at julie.neitzel@wefamilyoffices.com or 305.825.2225.

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Drew Limsky

Drew Limsky

Editor-in-Chief

BIOGRAPHY

Drew Limsky joined Lifestyle Media Group in August 2020 as Editor-in-Chief of South Florida Business & Wealth. His first issue of SFBW, October 2020, heralded a reimagined structure, with new content categories and a slew of fresh visual themes. “As sort of a cross between Forbes and Robb Report, with a dash of GQ and Vogue,” Limsky says, “SFBW reflects South Florida’s increasingly sophisticated and dynamic business and cultural landscape.”

Limsky, an avid traveler, swimmer and film buff who holds a law degree and Ph.D. from New York University, likes to say, “I’m a doctor, but I can’t operate—except on your brand.” He wrote his dissertation on the nonfiction work of Joan Didion. Prior to that, Limsky received his B.A. in English, summa cum laude, from Emory University and earned his M.A. in literature at American University in connection with a Masters Scholar Award fellowship.

Limsky came to SFBW at the apex of a storied career in journalism and publishing that includes six previous lead editorial roles, including for some of the world’s best-known brands. He served as global editor-in-chief of Lexus magazine, founding editor-in-chief of custom lifestyle magazines for Cadillac and Holland America Line, and was the founding editor-in-chief of Modern Luxury Interiors South Florida. He also was the executive editor for B2B magazines for Acura and Honda Financial Services, and he served as travel editor for Conde Nast. Magazines under Limsky’s editorship have garnered more than 75 industry awards.

He has also written for many of the country’s top newspapers and magazines, including The New York Times, Washington Post, Los Angeles Times, Miami Herald, Boston Globe, USA Today, Worth, Robb Report, Afar, Time Out New York, National Geographic Traveler, Men’s Journal, Ritz-Carlton, Elite Traveler, Florida Design, Metropolis and Architectural Digest Mexico. His other clients have included Four Seasons, Acqualina Resort & Residences, Yahoo!, American Airlines, Wynn, Douglas Elliman and Corcoran. As an adjunct assistant professor, Limsky has taught journalism, film and creative writing at the City University of New York, Pace University, American University and other colleges.