Latest / Dime After Dime / 21. Understanding the Role of Private Markets in a Portfolio

Transcript

21. Understanding the Role of Private Markets in a Portfolio · Dime After Dime

0:00
SPEAKER_00: This podcast is produced by Moran Wealth Management, an SEC registered investment advisor.
0:04
SPEAKER_00: Nothing in this episode constitutes his personalized investment advice.
0:08
SPEAKER_02: And they've only known two asset classes, stocks and bonds.
0:11
SPEAKER_02: Right.
0:11
SPEAKER_02: Right?
0:11
SPEAKER_02: That's all they've ever known.
0:12
SPEAKER_02: It's all they've ever been taught.
0:13
SPEAKER_02: I think the why now question really comes to why limit yourself to two categories.
0:23
SPEAKER_00: You're listening to Dime After Dime, a Moran wealth management podcast.
0:27
SPEAKER_00: Every episode, your host, Tony Steak, brings in financial professionals to discuss strategies and insights for investors who want to grow and protect their wealth.
0:36
SPEAKER_00: With that, here's Tony.
0:40
SPEAKER_01: Charlie, we are talking about private markets, right?
0:45
SPEAKER_01: Semi-liquid alternatives, right?
0:47
SPEAKER_01: Scaling them.
0:49
SPEAKER_01: And really, this episode is I want to frame it before I start asking a bunch of questions.
0:56
SPEAKER_01: Um, because I think there's not suspicion or skepticism, but there's gonna be this like uncharted territories kind of sentiment from many of our audience members.
1:05
SPEAKER_01: I'll frame it as this most of the folks listening on the show, myself included, right, have done all the right things, right?
1:12
SPEAKER_01: We've invested in the 401k, we maybe have a brokerage account, an HSA account, and it's all been revolving around the private or the public markets, the public sector, right?
1:22
SPEAKER_01: And we've grown our portfolios, we feel pretty good.
1:25
SPEAKER_01: Maybe you're buying a couple tickers, maybe you're doing you know TDFs or whatever that is.
1:30
SPEAKER_01: That's not up for discussion.
1:31
SPEAKER_01: You passed your financial literacy course.
1:33
SPEAKER_01: Pretty much, right?
1:34
SPEAKER_01: Right.
1:34
SPEAKER_01: And you and you feel like you, hey, I accomplished something, I'm somewhere, right?
1:39
SPEAKER_01: But now you're looking at the next 20, maybe 30 years before retirement, and you're beginning to learn more and more about wait a minute, it can't be so you know unidirectional, if you will.
1:52
SPEAKER_01: We need to start looking at some of these other things.
1:54
SPEAKER_01: So tell me and our audience, just broad sweeping, why did this pop up?
2:00
SPEAKER_01: Like it feels like it's only been over the last couple of years that this whole, you know, the private markets and this semi-liquid alternatives thing, where'd this come from?
2:08
SPEAKER_02: So, really great question.
2:10
SPEAKER_02: Um, let's just frame this and go back a little bit.
2:11
SPEAKER_02: Please.
2:12
SPEAKER_02: The private markets have been around a long time, right?
2:14
SPEAKER_02: I mean, it but only accessible to the institutions.
2:17
SPEAKER_02: And you can go all the way back to the 90s and 2000s, and you think of Yale and the Swenson model and all this stuff of putting half of the endowment in private markets.
2:27
SPEAKER_02: Well, that's really great for the institutions, and it's worked out extremely well for them over the many years.
2:32
SPEAKER_02: It's only been in the last, I'd call it three to four years, where now more of these private markets are open to individuals.
2:39
SPEAKER_02: And it started with the ultra high net worth, and now it's going even down to just high net worth and and to um into regular kind of average people can now participate.
2:48
SPEAKER_02: Um, so the reason why people don't know so much about it is it hasn't been around very long or ex or accessible, and now it is.
2:55
SPEAKER_01: So now it's out there, right?
2:57
SPEAKER_01: You hear about it more and more.
2:58
SPEAKER_01: Um, and it's exciting, it's a new avenue, right?
3:01
SPEAKER_01: But there's there's a lot of things that need to be defined.
3:04
SPEAKER_02: Sure.
3:04
SPEAKER_01: Right?
3:04
SPEAKER_01: So let's go through.
3:06
SPEAKER_01: I'm I was I was joking with, I think it was Aaron about explain to me like I'm five, right?
3:12
SPEAKER_01: All the definitions that we have, like BDC and non-tender.
3:16
SPEAKER_01: Can you just go through that list of of some of the things you need to think about or some of the terms that you hear?
3:22
SPEAKER_02: Yeah.
3:22
SPEAKER_02: Yep.
3:23
SPEAKER_02: Um so let's so let's go back and kind of frame it, the basics, right?
3:26
SPEAKER_02: Um, a private equity firm or a private credit firm or a private uh infrastructure firm, that is access to companies that are not public, right?
3:36
SPEAKER_02: Or lending to companies that are not public.
3:38
SPEAKER_02: They're private companies.
3:40
SPEAKER_02: There are almost 85% of all companies in the United States and probably globally too, are private.
3:47
SPEAKER_02: We only know and talk about the 15% that are public.
3:52
SPEAKER_02: So as we get into like looking at what are the ways to play and what are some of those terms and things you need to think about, um, the first thing that you need to think about is how you get in.
4:02
SPEAKER_02: What are the right, what's the right way to get in?
4:05
SPEAKER_02: Um, they're windows.
4:06
SPEAKER_02: These are not liquid, they are illiquid, they're more liquid than they used to be, but you got to think of these as long term.
4:14
SPEAKER_02: So you have a have a window that opens up, and it might be every quarter or so, some are monthly, of when you can apply to get in.
4:24
SPEAKER_02: So it's that sort of think about, you know, monthly get in, maybe quarterly get out.
4:29
SPEAKER_02: That's different than it was for just the institutions, because that was seven to 10 to 12 year lockup periods back in that day.
4:37
SPEAKER_02: So kind of that window of when you get in is is one thing.
4:40
SPEAKER_02: Um, the exit is the other, right?
4:42
SPEAKER_02: Get in in's one, getting out's the other.
4:44
SPEAKER_02: And there are rules to that too.
4:46
SPEAKER_02: Usually that is quarterly and getting out.
4:49
SPEAKER_02: They also have the ability to, and everyone needs to know this, they have the ability to put up a gate to basically cut the door in half or even more.
4:59
SPEAKER_02: Usually that gate is about a 5% redemption of the total funds.
5:04
SPEAKER_02: So that usually doesn't mean much if markets are kind of quiet and nothing really happening.
5:09
SPEAKER_02: If you get a real panic, fear, scare uh about public markets, which then goes into the private markets, um, they can stop the amount of redemptions that are allowed.
5:19
SPEAKER_02: And it's done really for the protection of all the investors that are in that fund because these are illiquid, these are private companies that uh that are investing in.
5:27
SPEAKER_02: Uh, it takes time.
5:28
SPEAKER_02: So it's done for the purpose of safety for others.
5:32
SPEAKER_02: So think about the window in and out as the first main thing to think about.
5:37
SPEAKER_02: The other thing uh is fees, right?
5:40
SPEAKER_02: Fees historically have been very high to give you access, to get access into the private space.
5:46
SPEAKER_02: This was the old two and 20 type uh fee structure.
5:50
SPEAKER_02: You know, 2% of assets under management, the uh the company will charge, and they get 20% of the carry or any profits generated above a certain hurdle rate.
6:00
SPEAKER_02: So the two and 20 was the model for a very long time for the institutions.
6:05
SPEAKER_02: Now there's more of these around.
6:06
SPEAKER_02: And now that they've opened these up to individuals, uh that fee has been competed down to more like a I'd call it a 125 and 12.5% fee.
6:17
SPEAKER_02: So 12.5% carry, 1.25% management fee.
6:22
SPEAKER_02: Um, what they call all of this stuff is interval funds or non-publicly traded BDCs.
6:30
SPEAKER_02: It's a big, you know, word salad of all of that.
6:33
SPEAKER_02: Um, interval, think of it as just that.
6:35
SPEAKER_02: It's just you have intervals of time when you can get in and intervals of time when you can get out.
6:40
SPEAKER_02: Um, and don't um don't think that when you see publicly traded companies that traffic in all of this and think of big ones, you know, KKR, Apollo, Carlisle go down the list.
6:51
SPEAKER_02: Um, that's the stock price that's being publicly traded.
6:54
SPEAKER_02: That may have absolutely nothing to do with what the value of the funds that um that they're invested in.
7:00
SPEAKER_02: That's just what the market weighing mechanism is for the company itself, not the underlying assets in the funds that they have.
7:08
SPEAKER_01: Sure.
7:09
SPEAKER_01: That's very helpful.
7:10
SPEAKER_02: And when you list it off, you list off KKR, Vista, all those, you're talking about PE firms, private equity, private credit, you know, think of Blue Owl and um Step Stone and Stone Peak, and you know, all the there's there's um upwards of 14,000 private equity, private credit firms out there.
7:27
SPEAKER_02: And, you know, in the past, it it never really meant much to individuals because they didn't have access to it no matter what.
7:33
SPEAKER_02: Uh now it's kind of buyer beware.
7:36
SPEAKER_02: I mean, you got to be very careful in how you choose this, because remember, these are illiquid.
7:40
SPEAKER_02: So if you're gonna go and commit money to uh to a uh a liquid or semi-illliquid, I guess I should say, um, firm, you gotta have a really good one.
7:49
SPEAKER_02: Be careful.
7:50
SPEAKER_01: So I I think that's really a prescient point that you made, and I want to point it out once again.
7:56
SPEAKER_01: You can invest in a publicly traded private equity or private credit company, but that not not necessarily would be equivalent to investing in one of their funds.
8:07
SPEAKER_02: 100%.
8:08
SPEAKER_02: And and I think that a lot of the public, especially in the last 12 months or so, haven't really understood this.
8:15
SPEAKER_02: And, you know, we've had a little bit of a private credit scare over the last, uh, it's almost the last year or so.
8:22
SPEAKER_02: Uh, and immediately they they they hammer the stock price of the companies.
8:27
SPEAKER_02: Well, the reality is, in unless the value of the fund that they're managing has changed, it really shouldn't be that impactful to the stock price.
8:35
SPEAKER_02: But yet it is, because it is an immediate way um to weigh the feelings or emotions about the asset class or about those particular companies.
8:43
SPEAKER_01: So I'm gonna switch gears a bit.
8:45
SPEAKER_01: Um, I was uh with a friend and uh we we were just leaving a racetrack at the gas station, right?
8:53
SPEAKER_01: Everyone I personally love racetracks, uh, this is not an endorsement.
8:56
SPEAKER_01: Um, and my friend who I was with is like, you know, man, I really this is a kind of company that I would love to invest in.
9:02
SPEAKER_01: You know, if they were publicly traded, I'd love to invest in them.
9:05
SPEAKER_01: And I said to him, I said, you never know, you might be able to invest in a company like Racetrack.
9:11
SPEAKER_01: Because those those do exist, right?
9:12
SPEAKER_01: Like you had mentioned, 85% of companies in the in the United States, probably the world, are private.
9:18
SPEAKER_01: They still need capital too.
9:20
SPEAKER_01: True, right?
9:21
SPEAKER_01: And now it's becoming more and more accessible.
9:22
SPEAKER_01: I think the most obvious one as of late was SpaceX.
9:26
SPEAKER_01: Oh yeah.
9:27
SPEAKER_01: Right?
9:28
SPEAKER_02: Absolutely.
9:28
SPEAKER_01: There was a lot of private credit or or private investments directly into SpaceX.
9:33
SPEAKER_01: Can can you tell me a little bit more about, I mean, maybe not the SpaceX example necessarily, but how does that start?
9:40
SPEAKER_02: Yeah, well, okay, so let's take a little rewind.
9:44
SPEAKER_02: Twenty years ago, companies that were private would stay in the private equity realm for about four years.
9:50
SPEAKER_02: That was about the average holding period.
9:52
SPEAKER_02: And either the private equity company would sell it or they would IPO it.
9:56
SPEAKER_02: And it was a real kind of a constant need to churn it, churn it, get it out.
10:00
SPEAKER_02: Uh, and also back then there was uh a lot of um uh misconception or maybe rightfully earned that private equity companies they come in, they strip out all the people, they pay themselves a big dividend, and then they leave these companies for dead and they move on.
10:14
SPEAKER_02: Well, over the last 10 years or so, that model totally changed.
10:18
SPEAKER_02: And most of the private equity firms, they realize there's so much value in these companies.
10:23
SPEAKER_02: Let's not do that.
10:24
SPEAKER_02: Let's grow them, let's nurture them, let's feed them, and we're gonna get a whole lot better price down the road.
10:29
SPEAKER_02: And that is exactly what happens.
10:31
SPEAKER_02: So that holding period of four years, roughly, is now upward of 10 or 12 years.
10:37
SPEAKER_02: This sits in the private equity space.
10:40
SPEAKER_02: And what does that mean?
10:41
SPEAKER_02: That means there's a whole lot of value accruing for only those investors that are in the private space.
10:46
SPEAKER_02: All those people who are in the public markets, they don't get it.
10:49
SPEAKER_02: And here's SpaceX is a great example.
10:52
SPEAKER_02: That thing rose from you know 200, 300 billion in market cap billion in market cap back a year ago, and it came public at, you know, one and a half to um uh to two trillion dollars worth of value.
11:04
SPEAKER_02: Astonishing to have that big of a uh of an IPO.
11:09
SPEAKER_02: Um, but you're gonna see more of these because the private equity they're holding them longer, they're letting them get big, and then they're IPA on them.
11:16
SPEAKER_02: So we've got a whole bunch of them, and open AI is coming, and Databricks is another one.
11:20
SPEAKER_02: We've got a whole bunch of them coming, uh, and or all is coming as well.
11:24
SPEAKER_02: Um, it's gonna be a really interesting time.
11:26
SPEAKER_02: We're gonna see more of these SpaceX type deals coming.
11:28
SPEAKER_01: So uh forgive me if this is a really dumb question.
11:31
SPEAKER_01: And I I maybe you don't know the mechanics behind the SpaceX thing, but generally speaking, let's say you're SpaceX, you're Elon Musk, and you need capital.
11:40
SPEAKER_01: How do you how do you go about doing that?
11:41
SPEAKER_01: Right?
11:42
SPEAKER_01: I this is again, this is just for the end audience member and myself included, because I don't really even know.
11:46
SPEAKER_01: Does does Elon call up a bunch of private credit firms and say, hey, I need$100 million or$500 million?
11:52
SPEAKER_01: And then they go out and find the money?
11:54
SPEAKER_01: Like, how does that work?
11:55
SPEAKER_02: I I think it's all of the above.
11:57
SPEAKER_02: They've got their when they're companies of this size, you know, it's not like a$1 billion or a half a billion, half a billion dollar,$500 million company.
12:05
SPEAKER_02: Um, companies of this size, they use all the tools.
12:08
SPEAKER_02: Okay.
12:08
SPEAKER_02: So they're going out to the JP Morgan's and Bank of America's and securing, you know, multi-billion dollar lines of credit loans.
12:16
SPEAKER_02: They're going out to all the big private credit firms, getting loans from them.
12:20
SPEAKER_02: I mean, I think it's a smattering um across the board.
12:24
SPEAKER_02: Um they need they they are they are very capital intensive, very hungry for capital.
12:28
SPEAKER_01: Right.
12:28
SPEAKER_01: So that leads me to my next question.
12:30
SPEAKER_01: And and and we're going off a bit off the script here, but I think it's important because that same skepticism, right?
12:36
SPEAKER_01: That same suspicion that I think we feel is like, well, wait a minute, why is this available to me now?
12:42
SPEAKER_01: And am I am I am I late to the circus, right?
12:45
SPEAKER_01: Like the SpaceX deal in particular, like someone else, you know, is accruing equity with these private credit or whatever it was, whatever these vehicles were, and then they go in IPO.
12:55
SPEAKER_01: So are we missing the bus?
12:57
SPEAKER_02: So I think there is an element of, and I was very skeptical of SpaceX.
13:01
SPEAKER_02: We'll see down the road, it'll probably do great, but um, but so much value, and it came out so expensively, and just by way of mechanics of it, and I'm a data guy, I'm a PM at heart.
13:13
SPEAKER_02: Um, you know, a really great company might trade at 10 times forward sales, eight times forward sales, um, 15 times forward sales.
13:21
SPEAKER_02: SpaceX came out at 99 times forward sales.
13:24
SPEAKER_02: I mean, so it wasn't just expensive, it was off the charts.
13:27
SPEAKER_02: I I can't possibly get my head around it.
13:29
SPEAKER_02: Have we missed it?
13:30
SPEAKER_02: I think that the answer is it there's 14,000 of these things.
13:33
SPEAKER_02: It depends which type of um private equity firm you choose.
13:39
SPEAKER_02: Some some are a cater or have in their portfolio the very largest companies.
13:44
SPEAKER_02: And if they got large because they were in their portfolio, good for them.
13:48
SPEAKER_02: They got in early.
13:49
SPEAKER_02: Um, if you're trying to get in now on the, you know, these very large, late stage private companies, maybe it is getting late.
13:57
SPEAKER_02: Maybe all that of value has accrued.
13:59
SPEAKER_02: The more interesting space to me is not trying to get that hot dot of what's big.
14:04
SPEAKER_02: It's really about all those ones you haven't heard of yet.
14:06
SPEAKER_02: It's all the young ones.
14:07
SPEAKER_02: It's that middle market size.
14:09
SPEAKER_02: It's companies that might be two billion dollar companies that years ago would have gone public and tried to fight their way in the public market, are now accruing really good value, great management, great strategy, etc.
14:20
SPEAKER_02: Um, that 2 billion goes to 100 billion.
14:23
SPEAKER_01: So I think there's a lot of FOMO.
14:27
SPEAKER_01: I I don't want to pick on SpaceX.
14:28
SPEAKER_01: I don't, I really don't.
14:30
SPEAKER_01: Um, but that's just the most topical relevant one.
14:32
SPEAKER_01: And they're more common.
14:33
SPEAKER_01: And there was, and there are more common anthropic and uh open AI and everything.
14:37
SPEAKER_01: So when I think about it though, is like redirect that FOMO.
14:41
SPEAKER_01: Yeah say to yourself, rather than try and catch a little bit of the SpaceX rocket ship for lack of a better turn, yeah, right?
14:49
SPEAKER_01: Kind of reapply it and say, hey, I might have missed the boat on this one.
14:52
SPEAKER_01: Likely I did, right?
14:53
SPEAKER_01: But that to your point, there are so many middle market companies, uh, middle market companies, also probably some ancillary ones that might be related to the SpaceX success that you could probably find.
15:04
SPEAKER_01: 100%.
15:05
SPEAKER_02: 100%.
15:06
SPEAKER_02: That there are a lot of opportunities out there.
15:08
SPEAKER_02: And I, you know, the the ones that you really just avoid, walk away from is when you're playing golf with your buddy and they say, you know, I've got a tip.
15:17
SPEAKER_02: I have this private equity firm that my brother runs, and it's gonna double and triple and quadruple over the next three years.
15:23
SPEAKER_02: Run.
15:24
SPEAKER_02: Go and get a beer and drop that conversation.
15:28
SPEAKER_02: Um, the the the there are probably about, oh, I don't know, several hundred really great private equity firms.
15:35
SPEAKER_02: It's getting access to them.
15:36
SPEAKER_02: Sure.
15:37
SPEAKER_02: And not all of these companies out there have interval funds, have um funds that are available to individuals.
15:45
SPEAKER_02: Um it's a budding new industry.
15:49
SPEAKER_02: It really just came about uh over the last couple of years.
15:52
SPEAKER_02: Blackstone, I think, was the first one to come out with one of these, and that was its B Cred or B REIT, uh, like in 2017, and then they did another one in 21.
16:01
SPEAKER_02: But it they've only had a life since post-COVID.
16:03
SPEAKER_02: Um, so I mean they're coming, and it's the bigger ones that started first, but you'll see these opening up all over the place.
16:10
SPEAKER_02: It's up to it's our job to try and vet these and make sure that we only offer our investors the the ones that we think are the very best.
16:18
SPEAKER_01: So great segue into why now?
16:21
SPEAKER_01: Like what again, you said three or four years ago this really started to kind of become more uh in the market, if you will.
16:28
SPEAKER_01: So, like, why now?
16:29
SPEAKER_01: Like, why?
16:30
SPEAKER_01: So, how how of this how all of a sudden do many more folks have access to these vehicles?
16:38
SPEAKER_01: Like what because again, that goes back to that skepticism.
16:40
SPEAKER_01: Sure.
16:41
SPEAKER_01: People are like, wait, wait a minute, like why do you want my money now?
16:44
SPEAKER_01: It's been going A-OK.
16:45
SPEAKER_02: And they've only known two asset classes, stocks and bonds, right?
16:48
SPEAKER_02: Right?
16:49
SPEAKER_02: It that's all they've ever known, it's all they've ever been taught.
16:51
SPEAKER_02: I mean, it's the only thing in textbooks, uh, etc.
16:54
SPEAKER_02: I think the why now question um really, really comes to why limit yourself to two categories?
17:03
SPEAKER_02: Why not?
17:04
SPEAKER_02: I mean, if if if there is opportunity to grow and to create value, why just stick with those two?
17:11
SPEAKER_02: You are um you're purposely hurting potential return and upping potential risk by not exploring um some of these private uh altern you know options.
17:23
SPEAKER_02: Also, and I think it's really important, we have become very concentrated as a world.
17:29
SPEAKER_02: You think about the publicly traded markets.
17:32
SPEAKER_02: There used to be in the United States alone almost 8,000 publicly traded companies.
17:36
SPEAKER_02: Well, well, that's almost been cut in half.
17:38
SPEAKER_02: So now there's like 4,200, and I don't know exactly the number, somewhere around there, publicly traded companies.
17:43
SPEAKER_02: We're concentrating more and more.
17:45
SPEAKER_02: And then you think about the S P 500, which everybody likes to talk about as a benchmark.
17:50
SPEAKER_02: That's the most concentrated large cap tech growth fund I've ever seen, with you know, almost 50% of the market cap of that index in 10 stocks.
18:00
SPEAKER_02: So we have gotten super, super concentrated, which dials up the risk.
18:05
SPEAKER_02: Why not do some things to try and broaden out and to diversify your portfolio?
18:10
SPEAKER_02: And maybe it's not what you've always thought is traditional, stocks and bonds, but it's a great asset class and something that should be explored.
18:17
SPEAKER_01: I love that.
18:18
SPEAKER_01: Um, okay, we only have about 10 minutes left or so.
18:21
SPEAKER_01: So I want to kind of get in like the brass tax, right?
18:23
SPEAKER_01: Some maybe some just more specific questions.
18:26
SPEAKER_01: I'll probably rattle them off.
18:27
SPEAKER_01: But the first one being, okay, I get in um private equity or private credit.
18:32
SPEAKER_01: What do I actually own?
18:33
SPEAKER_01: Like what do like like I stroke a check for, I mean, I'm sure there are minimums.
18:38
SPEAKER_01: You know, I remember it used to be a hundred thousand dollar minimum, which of makes it very unattainable for most.
18:43
SPEAKER_01: But I know that number's going down and down.
18:45
SPEAKER_01: And so what do I own when I make that investment?
18:48
SPEAKER_02: Yeah, sure.
18:48
SPEAKER_02: So let's take private credit separate.
18:50
SPEAKER_02: Let's do private equity first.
18:51
SPEAKER_02: Please.
18:52
SPEAKER_02: Um, first of all, the minimums for, and this is what's really beautiful.
18:54
SPEAKER_02: The minimums have come down in some cases, some of the funds that we use to$10,000.
18:58
SPEAKER_02: So it's very accessible in terms of uh of dollar amounts, right?
19:03
SPEAKER_02: Um, what you really own is if there is a think of a you know a basket, and I'll I have you know one fund in mind, they own 82 private companies.
19:12
SPEAKER_02: You are basically getting, you know, your share, your proportional share of all 82 of those companies when you strike that check.
19:20
SPEAKER_02: And then what you see over time, and again, sticking with private equity first, is there is a you know a an asset value for all 82 companies.
19:30
SPEAKER_02: And most all the good firms, they do it monthly, they have it audited so that they will see this net asset value of that entire book of 82 companies go up and down based on the value.
19:44
SPEAKER_02: And that value is created, or that value is determined based on comparisons, just like you would do a Zillow or something on comparisons of a house.
19:53
SPEAKER_02: They will say you have these software companies, you have these industrial companies, these financial companies, and for every single one of them, you will have a value assigned to it.
20:02
SPEAKER_02: So, what you will see is that NAV or that value of that basket, hopefully over time, goes up.
20:08
SPEAKER_02: And that's the investment you're making, is that you're participating in the value of all 82 companies, hopefully going up over time.
20:16
SPEAKER_01: And that's really interesting to me because I think some people think of a private equity or credit investment would be kind of into one company, right?
20:26
SPEAKER_01: So, but if you're investing in this fund, you have 82, it helps diversify, right, and reduces the risk.
20:32
SPEAKER_01: Like in theory, you have your money spread across 82 companies.
20:36
SPEAKER_01: Right.
20:37
SPEAKER_01: So should a few of them struggle or fail, you still have 78 or 79 that can you know grow.
20:44
SPEAKER_02: And and naturally, like the the the more mature they are, the less you're worried about the failure.
20:48
SPEAKER_02: If you're in a more of a venture-oriented unicorn type fund that's truly investing in sort of smaller companies, you're gonna have a bunch that fail.
20:57
SPEAKER_02: It's the nature of the beast, but you're also gonna get a couple Amazons out of that too.
21:01
SPEAKER_02: And that's the whole idea of those.
21:03
SPEAKER_02: For private equity, it's a little bit different.
21:05
SPEAKER_02: Now let's switch to private credit.
21:07
SPEAKER_01: Okay.
21:08
SPEAKER_02: Private credit, there is no benefit in having concentration.
21:11
SPEAKER_02: You could actually benefit nicely if you had a 30 30 company portfolio in the private equity space and they do well, and each one's gonna kind of matter at 30.
21:22
SPEAKER_02: At 80, 100, 200, 500, each one doesn't really matter all that much.
21:27
SPEAKER_02: In the private credit space, right?
21:28
SPEAKER_02: These are just loans.
21:30
SPEAKER_02: These are loans that are made to private companies.
21:32
SPEAKER_02: Um, the the private private credit firms get little better terms than a bank would give them.
21:38
SPEAKER_02: So the interest rates are going to be high.
21:40
SPEAKER_02: That's why we invest in those.
21:42
SPEAKER_02: Um, but in the end, all you want to, there is no growth.
21:45
SPEAKER_02: All you want to get is your money back.
21:46
SPEAKER_02: And so, therefore, it really behooves the company to have more and more and more loans.
21:51
SPEAKER_02: And one of the firms that we use has 335 loans out to companies, and therefore, if one of them or two of them, Run into some hard hard times or whatever, that's really not going to affect um the uh the returns all that much.
22:08
SPEAKER_02: Sure.
22:08
SPEAKER_01: Um another brass tax question, and I'll tee it up a bit so you know where I'm going with this, but the illiquidity premium, like right.
22:16
SPEAKER_01: So like we think about like the it's not a lockup, right?
22:19
SPEAKER_01: But like you make this investment, and as a result, it's a liquid.
22:25
SPEAKER_01: What benefit is the illiquid nature of these investments?
22:29
SPEAKER_02: Well, look, if you're investing in this space, the first thing, again, you have to say, do I have any liquidity need?
22:38
SPEAKER_02: We're so sometimes we're solving the wrong way.
22:40
SPEAKER_02: People say, How much should I put in it?
22:42
SPEAKER_02: What percentage should I put in it?
22:44
SPEAKER_02: The reality is you ought to say, how much can I afford to be illiquid?
22:48
SPEAKER_02: And assume that it's gonna, it's it's difficult.
22:50
SPEAKER_02: It's available, you can do it, but it's more challenging than a public space.
22:55
SPEAKER_02: Um, so you want to be going in eyes wide open that this is a two, three, five, or even longer term horizon.
23:04
SPEAKER_01: Um, I don't know if that answers the question, but no, it does, but also the premium of just like illiquid products, like alternatives in general, perform better than the public markets.
23:15
SPEAKER_01: Historically, yes.
23:16
SPEAKER_01: Historically, yes.
23:17
SPEAKER_01: And that's part of illiquid nature, right?
23:19
SPEAKER_01: Like your your your your money's kind of unavailable to you, but in exchange for that, historically, right, the returns have been greater.
23:30
SPEAKER_01: That's right.
23:30
SPEAKER_01: The liquidity premium.
23:31
SPEAKER_02: Yes.
23:32
SPEAKER_02: And that and that look, that makes sense.
23:33
SPEAKER_02: If you're gonna be willing to tie your money up for longer, you ought to get compensated for that.
23:38
SPEAKER_02: And so you would hope and expect that it would either do one of two things or both, greater returns and lower risk.
23:45
SPEAKER_02: And what all the academic, and then showing you, and I saw the chart that goes back to 1990, uh, when you add, if you had a 60-40 or an 80-20, let's call it, stock bond portfolio, if you add privates, and I'll throw in all of them private equity, private credit, private infrastructure, if you add and take out 20% out of that basket and you put it into privates, you have actually increased the return and you've decreased the risk.
24:11
SPEAKER_02: So it's kind of a cake and eat it too.
24:13
SPEAKER_02: And it's the same thing if it was a 50-50 and now you spread into privates, you've increased the return and you decrease the risk.
24:22
SPEAKER_02: That's why the endowments do it, foundations, hospitals, all the big public pension plans, they figured it out a long time ago and they had the access and the ability to do it.
24:32
SPEAKER_02: We as individuals have not until recently.
24:35
SPEAKER_02: Cool.
24:36
SPEAKER_02: Um, fees.
24:37
SPEAKER_01: So we talked about fees a little bit.
24:39
SPEAKER_01: Um, but you know, there's a lot of do-it-yourselfers out there, folks that have just, again, public markets.
24:45
SPEAKER_01: And, you know, I I hate to compare apples and oranges, but like you have these extra fees and alternatives and the management fee and all that stuff in comparison to an index fund fee.
24:54
SPEAKER_01: Right.
24:55
SPEAKER_01: Like what so tell me, like, yeah, do you have to do a lot of math to figure out like the right?
25:00
SPEAKER_02: The so the public market is very try very transparent, right?
25:03
SPEAKER_02: I mean, you know what it costs to get in and what it costs to get out to a stock, right?
25:07
SPEAKER_02: Now that's nothing.
25:07
SPEAKER_02: Trades are free, everything else.
25:09
SPEAKER_02: Um, you know what the what uh if you have a mutual fund, let's say, you can look it up and see what the race the expense ratio is that that fund charges.
25:18
SPEAKER_02: Pretty transparent, very easy.
25:20
SPEAKER_02: You can chat it, you can Google it, find it immediately.
25:23
SPEAKER_02: Um, it's a little more um opaque in the private space because there are the management fees, you know, carry.
25:32
SPEAKER_02: Good luck trying to recalculate and prove out what the carried interest or what their share of the profits are and how much they get to keep.
25:40
SPEAKER_02: And everything that they show you when they, you know, report on a regular basis monthly for most of the private um credit and private equity firms.
25:48
SPEAKER_02: They're mostly every every month now, show you how it's doing.
25:52
SPEAKER_02: Um, they give you the net after all that stuff is taken out.
25:57
SPEAKER_02: So it's kind of not a how much am I paying?
25:59
SPEAKER_02: It's really the other way when you're thinking of the privates, is how much am I getting to keep?
26:03
SPEAKER_02: It's just it's it's it's otherwise you'll have almost impossible way to try and calculate exactly the fee you're paying.
26:10
SPEAKER_02: You know, generically you're paying, let's say, that 12.5% or that 1.25% management fee and the and the you know, 12.5% uh carry fee.
26:20
SPEAKER_02: But there's some other things in there that are definitely buried inside of their fee structure.
26:27
SPEAKER_02: So it really comes down to a what do I get to keep at the end and let me see what that number is versus what am I paying?
26:33
SPEAKER_01: It's opaque, but when you look at again against the performance, right?
26:36
SPEAKER_01: Like we still have to look at the variance between public market performance and their fees, less you know, let fees less fees, and private markets the same.
26:46
SPEAKER_02: Yeah, it's the same.
26:47
SPEAKER_02: I mean, in the end, it's the you know, performance should be shown net of fees.
26:50
SPEAKER_02: So you see what it is net of fees on the private, you see what it is net of fees on the public.
26:55
SPEAKER_02: Um, and you know, historically, uh the returns have been very good.
26:59
SPEAKER_02: Now they've come down of late, ever since COVID happened.
27:02
SPEAKER_02: There's been uh, you know, less opportunity to go public.
27:05
SPEAKER_02: You haven't had as many IPOs.
27:07
SPEAKER_02: SpaceX is actually starting a little bit of the uh of the movement.
27:11
SPEAKER_02: Um, you had interest rates that have now gone up.
27:13
SPEAKER_02: That makes it a little more difficult to get out.
27:15
SPEAKER_02: So you used to have kind of 20% plus type returns in the private equity world.
27:20
SPEAKER_02: Uh that's kind of morphed down to more like 10 to 12 to maybe 14% of of late.
27:28
SPEAKER_02: I particularly am interested in that space right now because you know, as a public equity guy, we've had these, you know, 12, 15 years of mid-teens returns, really intoxicating and very unusual, right?
27:43
SPEAKER_02: Usually public equity markets over the last hundred years or so, you get about eight to nine percent.
27:47
SPEAKER_02: That's kind of what you what you would expect.
27:49
SPEAKER_02: And we've been almost double that.
27:50
SPEAKER_02: Um, I am a little more, you know, thinking and a little more concerned that at some point we're gonna pay the piper.
27:57
SPEAKER_02: I'm not sure what's gonna cause it, whether it's AI comes and then all of a sudden the excitement goes and and the market you know takes a breather for 10 years.
28:06
SPEAKER_02: Um, maybe it's interest rates going higher that causes it.
28:09
SPEAKER_02: Um maybe it's uh waking up that we've got a$40 trillion debt, and and somehow that's gonna affect the markets at some point, and it will.
28:18
SPEAKER_02: That maybe 10, 12, 14% in a world where now you're back to average or subaverage, getting mid-single or high single digit public equity returns, that's gonna look phenomenal.
28:30
SPEAKER_02: And it's gonna help your overall portfolio in an incredible way.
28:34
SPEAKER_02: Obviously, the last 15 years, if you just put 100% in public equities, that was the right call.
28:40
SPEAKER_02: But that's not the way we want to manage money.
28:43
SPEAKER_02: And what we're always trying to prepare for is the bad time or the downturn.
28:47
SPEAKER_02: Um, privates will help ease the blow when we get there.
28:52
SPEAKER_01: Perfect.
28:52
SPEAKER_01: That segues delightfully my next question.
28:55
SPEAKER_01: A little unfair.
28:57
SPEAKER_01: Um, composition, portfolio, like it just a finger in the wind.
29:00
SPEAKER_01: What should it look like?
29:02
SPEAKER_01: You know, like is it 80-20, public, private?
29:05
SPEAKER_01: Like it would what is I realize I'm asking an unfair question because you don't have their full composition of the financial plan.
29:12
SPEAKER_01: You don't know, but like, is there kind of a chalk line?
29:15
SPEAKER_02: Again, you know, turn it on its head.
29:16
SPEAKER_02: What is what is the amount of liquidity that you can or illiquidity that you can stomach?
29:21
SPEAKER_02: Let that be the driving force.
29:24
SPEAKER_02: I would say if I were to do a, you know, throw a finger in the wind type of thing, I would say 10 to 20 percent of your total could be in privates.
29:33
SPEAKER_02: If you have more assets and more illiquidity stomach, um, it could be as high as 30%.
29:40
SPEAKER_02: And that's not just me saying it, that's kind of what the academics are showing, and that's um, you know, what's current currently thought about, but that illiquidity um temperature or gauge or appetite is what really needs to drive it.
29:55
SPEAKER_02: And and think of it, you know, if you have a public allocation, stocks, bonds, think of this private as just another the same thing.
30:05
SPEAKER_02: It's just in the private space.
30:06
SPEAKER_02: So if you carve out 20% of that public money and put it into private, now you're gonna do the same thing.
30:11
SPEAKER_02: Say, all right, I'm gonna put th you know, 60% into private equity, 20% into private credit, 10% into infrastructure, maybe a couple percent into real estate.
30:23
SPEAKER_02: You're gonna make its own little diversified bucket of privates, just like you have a diversified bucket of publics.
30:29
SPEAKER_01: Sure, makes perfect sense.
30:30
SPEAKER_01: All right, last question.
30:31
SPEAKER_01: You promise?
30:32
SPEAKER_01: Um, I'm a bit no.
30:34
SPEAKER_01: Um, I'm a bit overwhelmed, and which which leads me to this question why due diligence?
30:40
SPEAKER_01: Like, how do you even start?
30:41
SPEAKER_01: Like, I mean, like, you know, and I realize, I mean, it's probably a a back-ended way of pitching the advisor relationship.
30:48
SPEAKER_01: I'm getting ready to go there, right?
30:49
SPEAKER_01: Because, like, but like, how do you I can't even imagine because I I remember before SpaceX went uh public, I remember getting like seeing ads and emails and like get in here on SpaceX or get in before this one goes live.
31:04
SPEAKER_01: Like, I mean, obviously those can't all be legitimate.
31:07
SPEAKER_02: Yeah, like how do you even begin the particular of that?
31:10
SPEAKER_02: That's again, and you're trying to it's different when you're trying to buy into the company that's going public and you want in on that, and you're gonna do be as scrappy as you can, and you may fall for something really bad of advertisements and whatever, trying to get in or fees that are unbelievably high or whatever to try and get into that next big one.
31:30
SPEAKER_02: That's why you want to be in a fund.
31:32
SPEAKER_02: You want to be in something that's got a basket of them, it's diversified, um, that kind of a thing.
31:38
SPEAKER_02: Um, I would say that you know, this is where the advisory role comes in.
31:43
SPEAKER_02: Again, these are not that old, they've only been around for a few years.
31:47
SPEAKER_02: Um, you need an advisor, you need help in navigating it and getting in.
31:52
SPEAKER_02: And there's gonna require a period of time where we just all need training wheels.
31:56
SPEAKER_02: You know, I I wouldn't want a client to come in and saying, full allocation, I'm in, you know, let's go for it.
32:03
SPEAKER_02: I know it's only a couple years old, but I'm willing to swing.
32:06
SPEAKER_02: No, most folks, this is new to them.
32:08
SPEAKER_02: We're gonna want to do some baby steps.
32:09
SPEAKER_02: So if I said, you know, you can stomach 10 to 20% based on everything I know about you, let's start with five.
32:16
SPEAKER_02: And then we'll see how it goes.
32:18
SPEAKER_02: And every quarter, we'll see how the returns go.
32:20
SPEAKER_02: We'll see that what's being said in the news.
32:22
SPEAKER_02: We're gonna get headlines that are pro and con of this, but it's much easier to do it that way, and that will solidify kind of that long-term thinking of this asset class rather than, you know, I'm in Procter and Gamble today and I can get out in three weeks.
32:36
SPEAKER_02: That's not the way it's gonna work with these guys.
32:38
SPEAKER_01: So I mean, I'm a skeptic, and many probably uh audience members are Gen X.
32:42
SPEAKER_01: Like we're naturally inherently a skeptic.
32:44
SPEAKER_02: And the reason I ask that question is I'm a boomer so careful.
32:48
SPEAKER_01: But that's why I asked the question because, like, if I'm getting served up, or even if even publicly available, like without an advisor, I can go and invest in X, Y, and Z in the private markets.
32:59
SPEAKER_01: Right.
32:59
SPEAKER_01: I have to think of myself, well, why just them?
33:02
SPEAKER_01: And why you know, why do you want me to take a look at these without uh a professional in the room or whatever?
33:09
SPEAKER_01: And I'm not again, I'm not being I'm not suggesting everything's uh uh uh nefarious, but like you think that way skeptically.
33:18
SPEAKER_01: Like, why are you coming to me now?
33:19
SPEAKER_02: Let me just tell, just real brief about what we do for our vetting.
33:24
SPEAKER_02: We have an investment committee and we go through conversations about what could make sense.
33:30
SPEAKER_02: We have a platform that we use um called Case.
33:34
SPEAKER_02: They do a lot of the vetting.
33:35
SPEAKER_02: So they by the time it even gets to our committee, we already know that they're approved and on their list.
33:41
SPEAKER_02: And even better yet, they hire one of the biggest and best um consulting firms in the world.
33:47
SPEAKER_02: It's Mercer Consulting, and Mercer goes in and does a scorecard for each and every one of those companies, beating up those funds.
33:54
SPEAKER_02: So multi-layer of vetting goes on before it even gets to our investment committee, before we even offer that um to our client.
34:02
SPEAKER_02: We don't have the capability, almost nobody does, to be able to go into all of these private equity firms, private credit firms, and do the kind of necessary due diligence um that I would want if I was buying into it.
34:15
SPEAKER_02: So we actually have a lot of uh those bases covered by multiple layers of Venin.
34:22
SPEAKER_01: So what what an enlightening episode, Charlie.
34:24
SPEAKER_01: Thank you so much for coming on the show.
34:26
SPEAKER_01: I feel like at least I learned a lot around like there's an untapped, I mean, obviously it's been around for a couple of years now, but an untapped market in alternatives, private credit, uh, private equity.
34:40
SPEAKER_01: And I think there's many people out there that have gone it on a loan in the public markets, and they are now beginning to realize that there's a lot more to this, um, not only from uh from a from a premium perspective around potentially the returns, but also the ability to hedge a bit against the public markets, and like you talked about those factors at play.
35:00
SPEAKER_01: Uh what an incredible episode.
35:01
SPEAKER_01: Charlie, thank you so much for joining our show today.
35:03
SPEAKER_01: Absolutely.
35:04
SPEAKER_01: Thanks for having me.
35:04
SPEAKER_01: I appreciate it.
35:05
SPEAKER_01: Hopefully, you all like the show as well.
35:07
SPEAKER_01: Make sure to like, subscribe, and comment, share with a family or friend.
35:12
SPEAKER_01: I'm your host of Dime After Dime, Tony.
35:14
SPEAKER_01: Until next time.
35:18
SPEAKER_00: Thanks for listening to Dime After Dime.
35:20
SPEAKER_00: To hear more episodes, follow us on your favorite podcast app and visit MoranWealth.com.
35:27
SPEAKER_00: Moran Wealth Management LLC is an SEC registered investment advisor.
35:31
SPEAKER_00: Registration as an investment advisor does not imply a certain level of skill or training.
35:35
SPEAKER_00: The publication of Moran Wealth Management's videos should not be construed by any consumer or prospective client as Moran Wealth Management's solicitation or attempt to affect transactions and securities or the rendering of personalized investment advice.
35:46
SPEAKER_00: A copy of Moran Wealth Management's current written disclosure statement as set forth on Forum ADV discussing Moran Wealth Management's business operations, services, and fees is available from Moran Wealth Management upon written request or at advisorinfo.sec.gov.
36:00
SPEAKER_00: All information in the videos is provided solely for convenience purposes only, and all users thereof should be guided accordingly.