Tapping into private credit funds as a source of robust fixed-income yields has enabled Connell to meet or exceed the hypothetical returns of a 60/40 public equity/debt portfolio (comprised of a 60% weighting in the MSCI World index and 40% in the Bloomberg Barclays U.S. Bond Aggregate) in each of the past four years. Through the first six months of 2021, the approach has outperformed the 60/40 benchmark by roughly 6%.
To generate those returns, Connell has invested in private credit and equity funds such as the CION Ares Diversified Credit Fund (CADC), and the Strategic Wireless Infrastructure Funds offered by Strategic Capital Fund Management.
Industry titans such as Blackstone, KKR and a host of niche lenders such as Lone Oak Fund and Anchor Loans also offer access to private debt funds. It’s important to note that private equity and private debt can sometimes carry elevated levels of interest rate risk, as buyers may pay for assets (or make loans) with a healthy dose of borrowed funds. “Lower rates have pushed up valuations, and rising rates would certainly impact valuations,” says Hamilton Lane’s Brennan.
Private market funds can also have a complex set of fees, including feeder fund fees, in place. Hamilton Lane’s GPA fund, for example, charges management fees in excess of 1% (though with breakpoints), and also levies performance fees once hurdle rates have been met.
Advisors can also find those kinds of fees on the funds offered on trading platforms such as iCapital and CAIS. For that matter, the typically stiff fees charged by the broad array of “liquid alt” mutual funds and ETFs have also been a challenging hurdle for advisors to navigate with their clients.
In response, some advisors and family offices have created their own bespoke alternative funds for clients. Jeff Nauta, a principal at Henrickson Nauta Wealth Advisors, has been able to develop internally managed alternative asset funds for around $25,000. Hendrickson Nauta’s funds invest in assets such as real estate, transportation (railcar leasing, helicopter leasing, inland marine insurance) life settlement funds and other esoteric asset classes.
To be sure, advisors need to educate clients on what to expect. Blackstone has created Blackstone University to educate advisors, brokers and family offices.
But the experience of some advisors and their clients in the alternatives space has been disappointing. One advisor began placing some clients into private equity funds a decade ago when he was at a wirehouse. Though the funds delivered low double-digit returns for several years after the Great Recession when bargains were plentiful, clients are now getting returns in the 5% to 7% areas.
Feeder fund structures and creative return calculations prompt critics to doubt whether financial advisors and their clients are receiving anything close to the double-digit returns they were sold on. In particular, some believe that many private equity firms use leverage via credit lines to juice returns in the early years. “Be sure to show your clients month by month ‘net net’ returns over the lifetime of the prior funds before suggesting they invest in alternatives,” New Jersey advisor Kurt Stein says.
Some academics also maintain that private equity firms overpromise and under-deliver. That’s the view of Ludovic Phalippou, professor of financial economics at Oxford University’s Said Business School and author of Private Equity Laid Bare. Phalippou argues in the book that returns from private equity have not exceeded those of relevant indexes for public markets since 2006. However, he argues that private equity funds have created spectacular wealth for the PE firms themselves.
That’s food for thought for any advisor that has delivered solid returns for clients in this bull market.