As private markets go mainstream, can advisors keep up with due diligence?

Larry Barocas of Snowden Lane Partners said he thinks many advisors don't realize how much time is required to help clients distinguish good investments from bad in private markets.

Liquidity constraints make advisors particularly responsible for ensuring any recommended private equity, private credit or similar alternative investments are appropriate and well-vetted before clients commit even one dollar, said the managing director at the $12 billion AUM advisory firm. If they later have second thoughts, retrieving the money may not be easy.

"It's not like a mutual fund," Barocas said. "You can't just go in one day and six months later you say, 'I don't like this fund,' and you're out."

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Regular investors' coming $2 trillion in private investments

Retail investors in private credit funds offered by the large asset managers Blue Owl and BlackRock learned earlier this year that withdrawal limits are strict. Yet even with illiquidity and other disadvantages to private markets have become increasingly well known, regular investors are expected to allocate substantial sums into these hitherto exclusive investments. 

The research and data firm Cerulli Associates projected this month that financial advisors will help clients move an additional $2 trillion into private equity, private credit, private real estate and similar assets over the next five years. If that prediction comes true, that would nearly double the $2.2 trillion advisors and regular investors have already dedicated to such alternatives to stocks, bonds and other traditional investments, Cerulli found.

Critics often warn that private markets can be risky for investors. Many nonpublicly traded investments come not just with liquidity barriers but also high fees and a lack of transparency.

Barocas said the high net worth clients he works with at Snowden Lane will allocate anywhere from 5% to 40% of their portfolios to private markets. Third parties can be helpful in evaluating opportunities, he said.

He and his colleagues often rely on the expertise of firms like iCapital and CAIS that specialize in bringing in private investing to retail clients. But even after suitable investments have been identified and narrowed down, Barocas still puts in hours trying to understand the fundamentals of individual private equity, credit and similar offerings.

"Before we invest in any specific fund, we've done at least three due-diligence calls, perhaps more, and we also gain access to the data," he said. "That lets us see what the deals are looking like in real time. We can also see what prior deals looked like, and we can really assess: Is this fund going to do well?"

READ MORE: Private credit is deliberately illiquid — did advisors explain that? 

Enter the interval funds

For many years, most investors in private markets were large institutions like pension funds, endowments and foundations. But changing institutional demand, combined with a growing interest among advisors and clients in alternatives to public stocks and bonds, has driven asset managers and other financial firms to act as a bridge for investors and advisors seeking access. 

Among the most popular vehicles for investing in private markets are interval funds, which Cerulli says now hold about $132 billion. These semiliquid funds were designed largely in response to a common complaint about private investments: that they often present too many barriers to withdrawing money. Interval funds mitigate such concerns by allowing investors collectively to take out a certain amount periodically, often once a quarter.

In its regularly conducted industry surveys, Cerulli found that nearly 80% of asset managers already offer interval funds. That's far more than the number that provide similar semiliquid vehicles like non-traded business development companies (46%) and non-traded real estate investment trusts (31%).

READ MORE: Private assets in defined contribution plans could top $1T by 2030 

How asset managers help open private markets

One of the many firms working to broaden access to private markets is the fintech Allocate, which recently entered into a partnership with the asset manager VanEck aimed at providing RIAs and other advisors more opportunities outside traditional investments. 

Samir Kaji, the CEO and co-founder of Allocate, said Monday that advisors have a fiduciary obligation to act in their clients' best interests when recommending any private investment. Large asset managers like VanEck can help reduce some of the due-diligence burden by looking at the myriad of private funds on offer and culling ones unlikely to be suited for retail investors. Allocate then eases the process of investing.

It now works with 375 advisory firms and RIAs overseeing roughly $5 billion in investable assets. Advisors who want to put clients in private markets "have to go find the opportunities, do due diligence on those opportunities, and then they have to actually execute," Kaji said. 

"And the execution layer has been candidly fairly manual — subscription documents, compliance," he said. "It's been getting those funds recognized on custodians. And then after the investment, it's the reporting, the K-1 [tax documents]. All those things that have really slowed down advisor adoption."

In an announcement similar to VanEck and Allocate's, the investment manager T. Rowe Price said last month that it was building on a previously formed partnership with Goldman Sachs to introduce a new interval fund. The T. Rowe Price Goldman Sachs Private Markets Fund requires a $1 million initial investment, and offers professional asset management and simplified tax reporting.

The fund is designed to lower "the structural obstacles that have historically prevented investors from accessing private markets with a single fund that can serve as a complementary investment allocation in a wealth portfolio," Kevin Collins, the head of U.S. intermediaries at T. Rowe Price, said in a statement.

READ MORE: Private market investments have gone mainstream. Now what? 

Is advisor education the missing piece?

Advisors and asset managers aren't the only ones pushing for greater access to private markets. 

Industry regulators have considered revising requirements that limit certain investment opportunities to "accredited investors" — generally defined as investors with at least $1 million in net worth (excluding their houses) and an annual income of at least $200,000 for the past two years for single earners and $300,000 for married couples.   

Perhaps even more than regulatory change, Kaji said, is thoroughgoing instruction for advisors on the potential and pitfalls of private markets. 

Kaji predicted many clients will eventually move away from standard 60-40 portfolios and have at least 10% of their holdings outside publicly traded investments.

"It's gotten to a point where you can't expect an end advisor to know everything about every single private asset class," Kaji said. "Venture is very different from private equity, which is different from private credit. So how do these platforms, including ours, provide the advisor with more knowledge using all the data at hand about not only the product that they're offering, but also a way for them to understand which client portfolios it could fit into?"