The Next Thing

Readers of a certain vintage will remember the “Generation Game" and specifically the show’s denouement where contestants had to memorise the prizes as they passed by on the iconic conveyor belt.

Fondu set, coffee maker - the obligatory cuddly toy. An ongoing and seemingly endless parade of toot offered as spoils to the “lucky” victors.

"No Margaret, we already have three cat on a tree ornaments at home".

Which brings us neatly onto the wealth management industry’s latest big idea of “democratising” (ugh) private market investment.

Private equity investment (buying shares in private companies) and private credit (lending money to private companies) seem to be having somewhat of a moment in the sun. The industry’s latest “big idea”.

And there does, at least anecdotally, appear to be an increasing demand from clients for access to these kinds of investments, and for potentially good reason too. Fewer companies are listing on public stock markets due to increased regulation, cost and money available from private sources. The private market’s opportunity set grows as the listed market’s contracts.

Private markets also offer (potentially) higher returns and (optically) lower day to day price volatility.

There is even the argument that not being able to liquidate private investments quickly is a good thing for individual investors, as they will be unable to easily “panic sell” during a moment of high emotion.

But I’m pretty confident that very few individual clients wake up one day and say, “do you know what, I feel I could do with some private companies in my portfolio”.

This isn’t a chicken and egg situation, the bulk of the demand must be originally stimulated by the asset and wealth managers themselves broking these ideas to their clients.

And this being the case, we have to ask the question, who is this stuff actually for? I think I can hazard a guess.

When the modern investor can invest in public markets very easily through (perfectly suitable) vehicles which cost very little and in turn generate very little margin for the asst management industry - then of course there is a fairly major incentive for the investment shops to push sophisticated, alternative strategies that feel a bit exclusive. “We wouldn’t show this to any old client sir, but you’re behind the velvet rope now”.

We have been here many times before. Today it is private markets, a couple of years ago it was ESG (Environmental, Social and Governance) investing.

Please don’t come at me, I have nothing against ESG investments and I recommend them to clients where there is demand. I think it’s awesome that clients can choose to invest in line with their values if they feel that is how they wish to express these values.

But like all good ideas where money is involved, the lemon was squeezed and squeezed to extract the absolute maximum profit out of it and there is no doubt in my mind that a lot of clients ended up in products which were unsuitable for them, because they were more profitable for the product provider and/or distributor.

2021 was a real moment in time for ESG investing - raging bull market, heightened social awareness and the best performers in the market were companies which would have screened as “sustainable” (tech companies mainly).

You could have your cake (invest in “ethical” businesses) and eat it (generate outperformance). The asset managers, who can never be accused of looking a gift horse in the mouth, filled their boots.

But markets have a habit of kicking you in the unmentionables sometimes and following massive inflows into these strategies, in 2022 the best performers in the market were stocks which absolutely would not meet the majority of ESG screens (oil & gas, mining companies etc).

A lot of the money which had flowed into ESG strategies in 2021 flowed out again. “Tourists” in these strategies off to chase performance elsewhere, like a dog chasing a plastic bag as it blows around in the wind.

I am concerned that as private equity and private credit gain traction amongst the retail investor class, that something similar could happen again. After all, even as private markets increase in size and value - there are only so many good ideas to go around.

Those of you who are business owners know that you don’t want loads of individuals on your shareholder register. It just becomes really unwieldy. Therefore as businesses scale, they tend to raise tickets from the institutions who can write the largest cheques.

But institutional demand for private investments is shrinking, not growing. And so sellers need to move further and further down the food chain in order to raise money.

There is a reason these deals are being shown to the retail investor now. And by the time they are placed on our plates, the tastiest opportunities have been picked apart by the big dogs. We are left with the scraps, it is the way of the world.

Ultimately if we can get to a place where Joe Public can access private equities at a similar cost to publicly listed companies, in a vehicle which is fit for purpose that won’t be gated at the drop of a hat, then I would be more than happy to invest myself and recommend this kind of thing to clients. But we aren’t there yet.

At the minute, this all just feels like the latest idea from the wealth management industry to win and retain business at a higher margin. Show them something that feels exclusive and special, something they can talk about down the pub.

But if you’re reliant on your portfolio for pub conversation then please, I implore you, get a hobby.

There’s no need to collect investments like football stickers. “The next thing” will come rolling along on the conveyor belt soon enough.