It’s a question more and more investors are asking: "How do I get started with private investing?" This piece is the beginning of a series where we will dive deeper into the various types of private investments.  For now, we will start with a broad overview of private investments.

Conceptually, private investments (or alternatives) are financial assets outside of public market assets such as stocks, bonds, and cash. Examples of private investments include private credit, real estate, natural resources, private equity, venture capital, infrastructure, and hedge funds. Although relatively small compared to the overall capitalization of the public markets, private investments have grown at a very fast compounded annual growth rate (CAGR).¹ Private investments, in contrast to publicly traded investments, require a few more hoops to jump through, but for many investors it may be worth the extra effort.

Historically, private investments have delivered returns that outshine public markets, which naturally piques interest. Let’s put it in perspective: Over the past 20 years, private equity has outperformed the S&P 500 by an average of 5.5% per year.¹ In addition, private investments often have a low correlation to the public markets and offer an investor the opportunity to further diversify a portfolio, which can be perceived as reducing overall risk exposure across individual investments and specific sectors (idiosyncratic risk), as well as reducing portfolio volatility.

Family offices and large institutions are already on board. They understand that with greater risk and less liquidity comes the potential for higher long-term returns. Many allocate 40% or more of their portfolios to private investments because they recognize the value these opportunities represent.

At GatePass Capital, we believe the best chances for strong, consistent returns for our clients lie within a diversified portfolio which includes a sleeve allocated to the private markets. Which is why we provide access to these types of investments for everyone, not just to family offices and institutions.²

Here’s what you need to know before diving into private investing:

‍1. Understand Your Goals and Risk Tolerance:

Why are you investing, and when will you need access to your money? These are crucial questions, especially with private investments, where your funds could be tied up for years. The illiquidity adds another layer of risk, so it is important to forecast whether you are likely to need access to the funds you plan to invest before the private investment term concludes.

‍2. Know the Structures:

Private investments come in different forms—evergreen funds, drawdown funds, and fund of funds. Each has its own set of rules and liquidity terms, so it’s vital to understand what you’re getting into. Let’s take a look at each:

Evergreen Funds: With evergreen funds, your entire investment is deployed immediately, much like in hedge funds. You have the flexibility to add more to your investment and can withdraw some or all your money at specific intervals, such as monthly or quarterly. It’s crucial to be aware of the redemption terms, as there may be specific notice requirements. Make sure to work closely with your financial advisor to fully understand the rules and conditions associated with these funds.

Drawdown Funds: These include traditional private equity, private debt, and venture capital funds. In these funds, your committed capital is gradually called upon as investments are made over time. You’ll receive instructions on when and how to contribute additional funds up to your total commitment. Unlike evergreen funds, drawdown funds do not allow for early withdrawals—your money is generally locked in until the fund’s term ends, unless there are income distributions or a liquidity event.

Fund of Funds: As the name suggests, a fund of funds is a collection of several underlying funds. This structure can be particularly beneficial for smaller investors, as it offers diversification across multiple investments. However, it’s important to note that this setup often comes with an additional layer of fees.

3. Choose Wisely:

Alternative investments are varied. Essentially, any investment that is not a traditional publicly traded stock or fixed income security can be lumped into the category of “alternatives.” There is a myriad of alternative investment options available, many with very different risk profiles and liquidity terms. From lower-risk (and typically lower potential return) senior secured debt to higher-risk (and typically higher potential return) venture capital, make sure your choices align with your financial goals. A good financial advisor can be invaluable here.

4. Watch the Fees:

Comparing investments net of fees is very important. Fees can eat into your returns. There are generally two types of fees for a private investment – a management fee and carried interest, which is an incentive allocation/fee a fund receives if it exceeds a certain minimum return. Understand both the management fees and carried interest, and how they impact your net gains.

5. Mind the Taxes:

Private investments often mean more complex tax situations, including K-1 forms that may require filing extensions. Some investments offer tax benefits, such as depreciation for real estate investments, but ensure they make sense within your overall portfolio.

Private investing can offer tremendous opportunities, but knowing the ins and outs is critical before you take the plunge. Want to learn more? Contact us here.

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Footnotes:

1 Pitchbook, as of December 31, 2023

2 Subject to certain income and net worth restrictions required by federal securities laws and regulations.

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Unless otherwise indicated, commentary on this site reflects the personal opinions, viewpoints and analyses of the author and should not be regarded as a description of services provided by GatePass Capital or its affiliates. The opinions expressed here are for general informational purposes only and are not intended to provide specific advice or recommendations for any individual on any security or advisory service. It is only intended to provide education about the financial industry. The views reflected in the commentary are subject to change at any time without notice. While all information presented, including from independent sources, is believed to be accurate, we make no representation or warranty as to accuracy or completeness. We reserve the right to change any part of these materials without notice and assume no obligation to provide updates. Nothing on this site constitutes investment advice, performance data or a recommendation that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person. Investing involves the risk of loss of some or all of an investment. Past performance is no guarantee of future results.

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