Why Your RIA Fears Private Equity Investments

RIAs Lack in Alternative Investment Offerings for Their Clients

Registered investment advisors (RIAs) have never been the preferred vehicle for finding alternative investment opportunities, especially private equity. Large private equity funds are not easy to access, nor is private equity always easy to understand.

But clients are becoming curious.

In a 2019 RIA Sentiment Survey by TD Ameritrade Institutional, RIAs reported that clients are becoming more interested in alternative assets, including socially responsible investments or ESGs, cannabis-related investments, hedge funds and private equity. The use of third-party managers by RIAs has also increased since 2018, allowing more advisors to gain access to quality deals, improve due diligence and free up time.

But still, among the 302 advisors surveyed, only 15% of them could recall private equity investments in their clients’ portfolios. The majority of RIAs still do not offer alternative investment opportunities.

Alternative Investments are Not Easy to Sell

Back in 2016, iCapital Network, an online platform that offers private investments to investors and their advisors, conducted a survey that found only one-third of RIAs had offered private equity investments to their clients over the past five years.

The survey of approximately 450 RIA firms also found that nearly 70% of RIAs who didn’t offer PE investment opportunities confirmed interest from their clients in that area. The number of clients investing in PE funds was less than 10% of each adviser’s client base, the survey found.

Though the number of RIAs that offer alternative investments has not increased significantly into 2020, client interest continues to grow. So, if the interest is there, why aren’t RIAs including them in their product suite? There are a number of reasons:

• RIA Investment Buying Power—Obtaining the minimum investment required by most fund managers is a major obstacle. Lawrence Calcano, managing partner of iCapital Network, told Financial Poise that the commitment levels required by fund managers can discourage potential investors.

“The minimum commitment levels required by fund managers from investors typically ranges from $5 million to $20 million, which makes many funds out of reach for all but the biggest investors. This reflects the fact that private equity has traditionally been the domain of large institutional investors, such as pension funds, endowments and foundations,” Calcano said. Many RIAs simply don’t have the buying power to access these funds.

• Due Diligence—Private equity investments require a great deal of due diligence to evaluate fund managers and potential deals. This takes time, and many RIAs lack the time needed to perform due diligence on multiple, individual private equity funds for multiple, individual investors. Luckily, many RIAs are outsourcing some of these tasks through third-party managers.
• Investor and RIA Education—It’s not easy to explain private equity to clients, and many RIAs still need more education themselves. Although PE funds have significantly outperformed the S&P 500 over the last decade, some RIAs still lack understanding of its potential risks and rewards.

Calcano suggested that these RIAs take the time to learn about private equity funds so that they can share investment opportunities with their clients: “Alternatives as an asset class is a relatively new option for investors and advisors. So, advisers still need to educate themselves and climb the learning curve on these products to get a better understanding of the timelines, the fee and compensation structures and the overall investor experience before discussing these investments with clients,” Calcano told Financial Poise.

• The Nature of Private Equity—Private equity investments are long-term, highly illiquid investments that are not always appealing to clients or advisors. Investors must also pay fees for fund managers and RIAs. In addition, fund managers do not always provide timely or adequate reporting, so investors can’t easily evaluate investment success.

New Opportunities on the Horizon

Despite the hesitation to include alternative investments in their clients’ portfolios, RIAs may have an easier time accessing and evaluating private equity deals thanks to several companies. In late 2019, Schwab Advisor Services created a new platform to provide alternative investment opportunities to RIAs through third-party sponsors. The platform eliminates custodial fees, and its first sponsor was none other than iCapital Network, which can provide research and perform due diligence on funds.

Other platforms, such as CAIS, as well as companies like PPB Capital Partners and Republic Capital Group also assist RIAs in private equity investments.

It will take some time for RIAs to catch onto private equity as the SEC and the JOBS Act continue to open up the space for more and more investors. Private equity is an important tool for diversification and higher return potential. Many RIAs shy away from these alternative investments, but their clients are seeing the appeal.

[Editor’s Note: To learn more about this and related topics, you may want to attend the following webinars: What is a “Private Fund?” and Due Diligence Before Investing. This is an updated version of an article originally published on July 13, 2016.]