Still, myriad barriers stand in the way. Regulatory hurdles are the most obvious, but the operational challenges that come with smaller investments cannot be overlooked. Are retail investors fated to get only what they need, instead of what they want? An array of investment firms and fintech startups are betting otherwise, busily chipping away at barriers to meet pent-up demand and gain an advantage as early movers. The retailization of private markets shows every sign of being a long-term secular trend, and a cyclical downturn is not likely to dissuade anybody. Institutional investors still dominate alternative investments, but their share of the market is shrinking. Retail investors are now the fastest-growing segment of the alternative investments market, and they are expected to continue to grow in the coming years. For any firm wishing to play a role in this evolving market, it is imperative that they understand what they can expect.
Anticipate, then adapt.
It is no secret that the market for alternative investments is evolving, but the scope, scale, and precise nature of these developments are not obvious.
Without this clarity, the key to successful adaptation is anticipation. In our view, it is critical to track developments on four fronts.
1. Regulatory environment
Various regulatory hurdles historically limited retail participation in private markets for good reason. Complexity, illiquidity, and a lack of transparency were all seen as potentially harmful to the financial health of retail investors, who were not as well-equipped to absorb shocks to their portfolios. Well-intentioned efforts to limit risk-taking effectively shut retail investors out of private markets, but perspectives evolved over time, prodded by supply and demand, shaped by related regulation, and influenced by technological innovations.
Regulatory hurdles have been systematically lowered over the past few years. For any manager competing in multiple jurisdictions, the global scope of these changes is noteworthy.
The SEC effectively expanded the market for alternative investments in the U.S. by broadening the definition of accredited investors in 2020, moving beyond financial metrics such as assets and income to include the consideration of expertise and knowledge. Meanwhile, the Department of Labor (DOL) clarified the fiduciary duties of plan sponsors and investment managers with respect to the inclusion of alternative investments as options in retirement plans. In the U.K., the Department for Work and Pensions (DWP) introduced regulatory changes that allowed defined contribution (DC) pension plans to invest in a broader range of illiquid and alternative assets. More recently, the U.K.’s FCA authorized long-term asset funds (LTAFs) to provide a regulated pathway for retirement investors to get access to illiquid asset classes including private equity, private credit, infrastructure, and real estate.
In 2019, the European Union (EU) introduced an innovative concept called the pan-European personal pension products (PEPP), which aimed to create a voluntary, standardized, and portable personal pension product that can be offered across all member states. Crucially, PEPP regulation included provisions for investing in alternative assets, including private equity and private credit. PEPPs have yet to gain much traction, but the groundwork was laid. Furthermore, the EU recently introduced an updated (2.0) version of its European Long-Term Investment Funds (ELTIFs) that took effect in April 2023.
2. Investors
Family offices technically represent individual investors, but they share many characteristics with institutional LPs, including significant allocations to alternative investments. Ultra-high-net-worth investors with $30+ million of assets may not have family offices, but this segment also boasts a significant exposure to alternatives of approximately 20%. Neither group is “retail” in any meaningful sense.
More important to firms targeting the retail segment are smaller investors. These range from very-high-net-worth (VHNW) with $5+ million to invest down to investors whose portfolios have yet to exceed the $1 million threshold. This group hits above its weight class: the mass affluent segment alone accounts for almost half of the estimated $140 trillion of non-institutional wealth globally.3
Most important of all may be the advisors who guide their retail clients. Ranging from private bankers catering to their clients’ every whim to suburban RIAs dutifully managing the more modest retirement assets of their many clients, advisors are the ones making most of the critical decisions. They are knowledgeable but busy, interested but skeptical. They will need to be handled with care, lest a suboptimal experience becomes a contagion. More positively, it is this group that will help individual investors understand the risks and rewards of alternative investments, guiding and supporting them in constructing portfolios that reflect their goals, risk tolerance, and other factors.
3. Products
The most direct route to the retail market involves lower investment minimums. This means using well-established investment vehicles specifically designed for smaller investors. In the U.S., this means 40 Act funds. Following in the footsteps of some hedge funds, a growing number of private markets managers have launched 40 Act funds to address the retail market.
Widely seen as an attractive compromise between the need for long-term commitments and a desire for greater liquidity, interval funds have exploded in popularity, with more than $63 billion managed across 79 funds at the end of 2022.4 Other 40 Act products are registered as tender offer funds, which are similar, but allow for more flexibility around liquidity options. Both types of funds allocate assets to a mix of direct investments and secondaries.
While less widespread, business development companies (BDCs) offer another convenient avenue for retail investments in privately held companies. The liquidity of portfolio assets may not change, but the ease with which their shares can be traded means BDCs have an enduring appeal.
Hybrid structures that combine the benefits of private and public investments are another option. Funds commingling investments in private companies with assets traded on a public exchange could offer greater liquidity and accessibility while still maintaining the advantages of private markets investing. Some private funds sell only via financial advisors, eliminating direct transactions. With approximately $70 billion of client assets in direct real estate investments, the Blackstone Real Estate Income Trust (BREIT) is one of the most widely known examples.
More experimental approaches are also being tried. Tokenization, for example, offers a novel way to securitize almost any asset by creating digital tokens on a distributed ledger. Its ability to divide large assets into small ownership units has captured the imagination of some in the industry. The use of blockchain technology means tokenization combines flexibility with a strong emphasis on privacy and the potential to inject liquidity into myriad markets. Despite its promise, tokenization has yet to be widely adopted, leaving it outside of the mainstream for now.
4. Platforms
Until recently, alternative investments were usually direct transactions between GPs and their institutional LPs. Investment decisions were often aided by consultants. As the number of participants on both sides exploded, digital platforms were created to facilitate deals. In this flourishing ecosystem, platforms rely on a variety of approaches to fill niches large and small.
Broadly speaking, alternative investment platforms aim to broaden access, simplify the investment process, increase transparency, and lower costs. In some cases, data analytics is being used to inform recommendations. AI-powered portfolio construction tools are around the corner. While some platforms focus on information, others emphasize their role as marketplaces. Some go a step further by providing retail investors with access to alternative asset classes from which they were previously excluded. Direct investing is relatively rare. Instead, the focus is generally on serving the RIAs, banks, and broker-dealers who advise retail investors.
Virtually anything is tradeable. Investors use platforms to buy or trade everything from early-stage equity and artwork to securitized music royalties and wine. Established alternative asset classes such as real estate, private equity, private credit, and hedge funds, however, continue to account for the bulk of transactions at most platforms.
Trailblazing platforms such as CAIS arose in the wake of the global financial crisis, intent on making these products more accessible. Their appearance was noteworthy, but the distribution landscape was not transformed overnight. Managers and investors initially licked their wounds and took their time to reconsider their investment frameworks. Amid mounting evidence that risk-adjusted returns might benefit from greater exposure to alternative investments, a growing number of advisors and other intermediaries began seeking out ways to expand the range of products in their client portfolios. Over the past decade, a steady stream of startups has sought to meet surging demand, with European entrants joining those in North America (Figure 2).
