Private equity has long been an asset class for institutional investors, such as pension funds and endowments. However, recent years have seen a gradual reshaping of distribution in response to heightened interest in private equity among new investor segments. Factors driving this shift include strong performance of private equity funds, individual desires for portfolio diversification, and emerging regulation in Europe which will soon broaden the access of private equity funds to retail investors.
As demand grows, attention is drawn to operational issues within the private equity investment space, where innovative and disruptive FinTechs are swooping in to offer digital solutions to enhance efficiency and accessibility.
Considering that the global retail market is valued around USD 80 trillion and that only 1% to 2% of the retail investors’ assets are allocated to alternatives , there is significant growth potential for both FinTechs and traditional wealth management distribution platforms. Let’s delve deeper into the driving forces behind these changes and explore the distribution models that are shaping the industry.
Navigating retail demand: private equity FinTechs tackle operational hurdles
Digital platforms ease the access to the private market for retail investors by offering this investor category a number of benefits, including:
- Lower minimum investment thresholds, thanks to the regulation: Digital investment platforms, often more so than traditional private equity managers, help eliminate the barriers to entry by offering investors the opportunity to utilize the lower minimum investment requirements that are permitted by the regulation.
- Greater transparency: Digital platforms provide more transparency to retail investors and wealth managers about the underlying private equity funds, including the funds’ investment strategy, performance history, and fees. This greater transparency can look like: real-time account access (log in to your investment account anytime, anywhere), availability of detailed account and transaction statements, fee disclosures disclosed upfront, visually presented portfolio compositions and navigable performance and reporting dashboards, among others.
- Ease of use: Digital platforms characteristically offer a simpler online, and mostly paperless, application process. Digital support regarding onboarding, subscription and tax reporting is usually also provided. It goes without saying that digital platforms are also typically more accessible – investors can conveniently view and manage their investments via their smartphones, computers or tablets 24/7, reducing the need for physical visits to brick-and-mortar investment offices.
- Increased liquidity: Digital platforms often provide liquidity to retail investors by introducing regular trading windows – some platforms even offer a secondary market, where trades can occur every six months, for instance. Such innovations enhance liquidity choices while fostering a sense of community and flexibility among investors.
As a result of these benefits, digital platforms have become increasingly popular with retail investors in the last years.
The ultimate goal of revolutionizing the investor experience
Historically, gaining access to alternative investments has been a challenge that's widely recognized. This difficulty has been acutely felt by individual retail investors; however, even prominent institutional investors encounter their own set of hurdles. A notable example is the extended duration that fund managers require to successfully onboard a first-time investor. This extensive timeframe is exacerbated by a complex web of regulations pertaining to Know Your Customer (KYC) and Anti-Money Laundering (AML) statutes. These regulations vary across different regulatory environments and significantly impede the otherwise streamlined onboarding process.
Nonetheless, the latest wave of digital solutions not only introduces automated online onboarding procedures, relieving much of the traditional onus associated with accommodating new investors, but also includes user-centric and easily navigable products that consolidate multiple functions. These innovators within the sector have also incorporated essential assurance over their internal controls, including SOC II Type 2, to ensure the global protection of sensitive information during its exchange.
What to expect from platforms for retail distribution of private equity funds?
Before getting into the details, it should be noted that digital retail distribution is already carried out by the wealth management industry, which in fact – despite the growth of FinTechs – represents the majority of the market. Digital platforms broaden the service offering and are increasingly used by wealth managers as a tool to improve the client experience.
Saying this, let’s examine some of the main features that can be found in the leading digital platforms, utilized in Luxembourg and Europe, to attract investors and advisors, and untap a new client base for the private equity market:
- Flexibility in the type of client: At this time, it is more common to find digital platforms that are targeting wealth managers, investment advisors, private banks and other asset managers (i.e., B2B). Thus, the solutions provided are usually designed to allow such firms to diversify the portfolio of their clients and streamline the administrative burden. Even so, some of the available platforms do focus on providing services directly to investors (i.e., B2C). To do so, they offer products aligned with minimums established by the regulation, increased or varied liquidity options and better transparency, aiming to appeal to individual investors who want to keep a close eye on their investments.
- Secondary markets: A key difference between the institutional investors and the retail investors is the capacity to hold illiquid investments, such as positions in private equity funds. In fact, retail investors usually search for more liquid investments. To solve the hurdles of liquidity for retail investors digital platforms have developed several solutions, which usually include secondary markets that are opened periodically for users to trade their participations. When such secondary markets are offered, they usually have a bi-yearly periodicity, but they can be quarterly or even more frequent in some cases.
- Due diligence: As retail investors and wealth advisors do not always have inhouse capacities to carry out detailed due diligence on each potential product, in many cases they need to rely on the processes carried out by intermediaries. On this point, digital platforms usually offer comprehensive due diligence services, including among others operational and back-office due diligence, and in some cases, third-party verifications to allow additional transparency. In this way, investors and wealth managers can review different funds online, access the results of the due diligence processes and also additional data to document investment decisions.
- Other complementary services: Considering that digital platforms aim to attract a customer base with different capabilities to institutional investors, they usually complement the value offer with other services, facilitating their users to navigate their platforms and the products offered. The variety and quality of the additional services can vary from one platform to another depending on their strategy and client base. Some of these services are unpacked below:
- Information and education: For some platforms, the value proposition is centered around educational resources, research tools, and real-time market information for free or at a lower cost. This empowers retail investors with the knowledge needed to make informed investment decisions.
- Automated investing: Robo-advisors and algorithm-driven investment options are provided by some platforms, reducing the need or frequency for investors to seek out expensive human financial advice.
- Social investing: Certain platforms allow investors to follow and mimic the strategies of successful investors, fostering a sense of community and learning.
- Research and analysis: Many of the platforms on the market provide a combination of research tools, market analysis and financial news, alongside the usual investor-specific investment dashboard and reporting capabilities, allowing clients to access real-time data charts, customize reports and make more informed decisions.
As can be identified from the above, digital platforms offer different interesting features that could be appealing to both wealth managers and investors. Under a B2B approach, advisors and wealth managers are used to reach the end client and the platforms become a tool for them to offer new and more diversified products to clients. On the other hand, under a B2C approach access to private equity funds is directly provided to retail investors and includes turnkey solutions. Thus, depending on their focus, the extent of the benefits provided to the clients differs across platforms, with some of them focusing on increasing the liquidity and others focusing on providing a robust due diligence process and transparency, as well as complementary services.
The future of retail distribution
The future of retail distribution of private equity funds could be bright provided that the liquidity and valuation risk attached to the products are handled with care by the manager designing these products. As the interest for private equity continues to grow, digital platforms will play an increasingly important role if wealth managers adopt the right technologies to make private equity funds accessible for retail investors. Thus, these digital platforms will continue to offer a variety of benefits to wealth managers and retail investors, such as greater transparency, increased liquidity and ease of use.
