Business Breakdowns
· Matt Reustle
[00:00:00] S0: The Third Avenue example feels like a design problem where you're offering daily liquidity connected to highly illiquid distressed bonds. Whereas investor education around the liquidity dynamics here with these funds, in theory, if the design is set up right and then the education is provided, you can have much cleaner process and outcomes. To your last point, having these in retirement accounts: there is a natural friction in retirement accounts to actually withdrawing it because of the penalties that you would face. Therefore, I can understand why there's almost a built-in barrier protection against liquidity pulls like that. And you mentioned some of the changes around marketing rules or potential changes around marketing rules. It does feel like we are seeing a bit of a push now on the marketing side, or things are changing a bit. So can you get into that and what the developments have been there and maybe what some of the impact could, in theory, be? Why are people out there marketing? What's the interest in marketing? Talk a little bit more about that.
· Josh Clarkson
[00:00:00] S1: I do think it's worth exploring that a little further as it is related to some of the things that we're going to talk about here in terms of how winners will establish themselves in this market and the importance of brand and profile and media engagement and those types of tools in winning in the wealth and retail market. So specifically, that change was regarding Rule 506(b) and 506(c), as they're called, which are two oft-used exemptions to the registration requirement for funds that firms avail themselves of to avoid registration. And in exchange, they will only solicit investments and only allow investments from accredited investors. Now, 506(b) has historically been the one that was most often used, but that bars general solicitation. So that's kind of the famous reason why you often hear a fund can't disclose its returns or its specific investments, or otherwise has to be rather tight-lipped. 506(c) allows general solicitation. So that means you can announce the launch of a fund, not just its closing. You can talk about the fund while it's in market in deep levels of detail. And now, historically, 506(c) was viewed as having additional burdens in terms of verifying investors' accredited status. But this no-action letter that was issued in March of this year greatly leveled the playing field between (b) and (c) in terms of what's needed to verify someone is accredited and what a manager can rely on in making that determination safely within the bounds of the law. So that, in turn, makes it much easier for managers who so choose to use 506(c) and, in turn, be able to communicate that they've launched this new private credit fund, the new asset-based fund, a new private equity fund, a new structured credit fund, a new real estate or infrastructure fund, whatever it may be. So it lets them talk about that. It creates opportunities to engage with the media and other external stakeholders, and it allows them to talk about that as it's in market with a lot of specificity. Now, that fund itself may be one that's pursuing investors in the wealth channel, for example, a new evergreen fund or the like. Or also, that fund itself could be more institutionally focused, but the strategy is very similar to what they're raising money for on the wealth side.
· Josh Clarkson
And it gives them a way to talk about that strategy out there in the world they otherwise wouldn't be able to. And we will talk about this more later about what will separate winners from losers in this market and the importance of establishing and building a brand and a positive profile and being viewed as an expert in your space, someone that somebody's going to entrust their capital with. And one of the lowest-cost, easiest ways to do that is media engagement. There's all this great owned content you can develop and the like. But just engaging with the media, putting news out when you have good things happen, being an expert voice on relevant trends, that's a relatively light lift compared to some of these other things, but can pay huge dividends in terms of positive name recognition across a really broad audience. And if you're now able to talk about your fund when it launches, that's a really low lift way to get some really positive narrative points out there in the market. And so I do think that more managers will avail themselves of 506(c), and you'll see more people out there talking about funds that they are launching or while they're in market, because not only will it benefit the fundraising campaign for that specific fund, but it can do an absolute ton in terms of elevating the firm overall, which is really going to be the name of the game to ensure that you're in a position to win this market.
· Matt Reustle
[00:00:00] S0: I want to dive a little bit deeper into that point about the vehicles that, in theory, would be best fits or most naturally suited to benefit from a potential wave of demand. You have a pretty good perspective on the broader private landscape. How would you isolate between, whether it's the different asset classes, the different strategies, whatever it might be, what fits, and the puts and takes to the relative strategies?
· Josh Clarkson
[00:00:00] S1: Really glad to go a little bit more in-depth with this because I do think a lot of what you hear and read about it glosses over it as this homogenous category of alts or private markets for retail. And it's really important to make those distinctions now. First of all, with the 401(k) market, what's really important to bear in mind is that everybody I've seen discussing this in any level of detail is really talking about adding these to target date funds. I don't think there's anybody out there who's pushing really aggressively to have standalone options for PE and private credit in your 401(k). Most of the focus right now, which I think is entirely appropriate, is on creating target date funds. And "fund" may be a bit of a misnomer because in many cases it would probably be an SMA or collective investment trust, especially in larger 401(k) providers, larger corporations, larger retirement plans that have the ability to do custom glide paths where you can build that private market exposure into that target date fund in a way that you have good forecastability into those cash flows. And the vast majority of the portfolio will remain in liquid assets. So you shouldn't really have that risk of somebody wanting all their money back and you not being able to very easily give it to them. Shifting gears a little bit into some of the products and asset classes that have long been and are gaining momentum in that private wealth retail channel outside of the retirement plan context, asset class-wise, credit has been the strongest grower, the one that has the most product in many ways. That's because it really makes the most sense for a lot of high-net-worth, mass affluent investors who are looking for high current income as they are in or approaching retirement, want to minimize volatility, and are willing to trade that liquidity for that potential higher income. Importantly, those products also, by having that yield focus, naturally throw off regular distributions, which is somewhat de-risking the investment and preventing a big liquidity squeeze because you have contractual interest payments and maturities that allow the manager to sync that up with the assets they have and give the investor what they want in the form of continuous liquidity.
· Josh Clarkson
And at the same time, there are also more liquid classes of credit, such as syndicated loans, structured credit that don't suffer from too much of a return drag compared to that core direct lending offering and can be maintained in that fund alongside it to provide that liquidity sleeve in a way that has very liquid instruments and also doesn't pose too much of a return drag compared to the core strategy of the fund. Other areas have been infrastructure, which is gaining a lot of steam right now, also that yield-oriented camp. Real estate was one of the first to take off. As the whole asset class hit some rough patches, you saw some declining interest there, I would say. What's been interesting now is, as you've seen real estate markets rebound, and our mutual friend on Twitter, Elliot, often points this out, you've seen the private markets rebounding much more strongly than the public REIT asset class. There is an argument there that if you want that real estate exposure, you should at least be thinking about it from both sides of the coin. Don't just buy REITs. Look into non-traded or semi-liquid REIT structures, which have begun delivering positive performance in recent quarters, whereas I think the REITs generally have been pretty range-bound. PE is kind of the emerging new frontier, if you will, of these semi-liquid products for retail, and you've seen them rolling out. You've seen them get a lot of strong initial interest. You see them deliver really strong performance out of the gate, mid- to high-teens, I think, for some of the better-performing ones. And I think you've seen BXPE cross a billion in sales in a month. Now, I have to double-check that, but the general point is that they're getting pretty strong adoption. And again, I do think that is with that higher to ultra-high-net-worth type of investor. I know many of the PE products started out being available to a qualified purchaser, which, not to interject this in the middle of the product discussion, but just to level-set, there's a thing called the Accredited Investor Standard, which applies to many of these products, which is that you have a $200,000-a-year income or a net worth excluding your primary residence of $1 million, or you're a financial professional of some kind.