Take a look at the historical data associated with private equity investing and you can see why investors consider it to be a worthwhile venture. When compared to other investment types (Nasdaq and the S&P 500) over a decade+ investment horizon, private equity historically outperforms its peers. In some cases, after 10 years, the return associated with private equity is nearly double that of Nasdaq or the S&P 500.
With that type of ROI, it’s easy to understand why the number of private equity investments (and total dollar amount invested) has increased each year, in spite of the 2008 crisis.
But investing in private equity doesn’t come easily for many investors. This investment channel has long been associated with institutions and wealthy individuals (think universities, pension plans, etc.), particularly since a large number of private equity firms work only with investors who have the means and interest of committing as much as $25 million. Even with some firms dropping their minimums to $250,000, this requirement excludes a large number of interested investors.
Fund of funds
A fund of funds can allow investors to reduce the minimum investment required as well as the level of associated risk. However, minimal investments can still range between $100,000 to $250,000 and investors without a net worth of between $1.5 million and $5 million may be excluded.
A fund of funds holds onto the shares of private partnerships investing in private equities. They have the capability of investing in hundreds of companies – across a variety of sectors – thus can represent a greater diversification.
Private-Equity Exchange-Traded Fund (ETF)
This option foregoes any minimum investment requirement as you buy individual shares of an ETF (that tracks an index of publicly traded companies investing in private equities) over the stock exchange.
But ETFs add additional management expenses (as do fund of funds) that you’d likely not have to incur with direct private equity investments. You might also have to pay a brokerage fee every time you buy or sell shares.
Another option you have is to invest in publicly traded shell companies that make private-equity investments in undervalued private company.
However, these SPACs can be risky. They often only invest in one company, greatly reducing your diversification. Furthermore, they may be handcuffed by investment deadlines, as dictated by their IPO statements, causing them to make an investment without committing the necessary due diligence.
While you have several options for private-equity investing, each comes with its own expenses and potential risks. When compared to mutual funds, for example, you might find the fees of private equity investments to be considerably high. This could have an impact on your returns.
Sure, there are private-equity investment vehicles that have lower minimum investment requirements; however, they often have little histories for you to compare to other investments, thus there’s risk of the unknown to contend with.
Regardless, it’s fair to say that if you’re considering private equity investment, be prepared to commit your money for at least 10 years. This allows enough time for companies to work through the acquisition phase, and start becoming profitable.
By investing anywhere between 2 to 5% of your investment portfolio in private equity, you can help minimize the overall risk on your portfolio and could enjoy a big return in the long run. Luckily there are a greater number of interesting smaller, private equity opportunities available to today’s investor than there have been in about 100 years thanks to crowdfunding and the JOBS Act. Between, Title III (coming soon), Regulation A+ and Title II (general solicitation, but accredited investors only).
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