As the hype continues for tech companies to go public, from Anthropic to OpenAI, many retail investors are chomping at the bit for access to the private equity market.
Investing in private companies has traditionally been reserved for more sophisticated investors, but there are ways for retail investors to participate. This goes beyond being lucky enough to work for a private company that distributes stock or participates in investment rounds for friends and family.
This trend is expected to accelerate as the Securities and Exchange Commission moves to provide retail investors with more ways to access investments that were previously off-limits. Responding to investor requests, SEC Chairman Paul Atkins said this week that the agency is announcing new proposals to ensure these investments are “not just the preserve of the richest and most sophisticated.”
The SEC’s proposal includes allowing registered investment advisers to charge performance fees of up to 20% on public funds, a level comparable to fees historically used in the hedge fund and alternative sectors. The SEC is also considering new ways for retail investors to qualify for access to private market investments related to “accredited investors,” such as passing an exam.
There are already about two dozen publicly traded closed-end funds focused on private equity and venture capital, according to Morningstar Direct. “This is a way to get private market exposure without having too much exposure to one company,” said Emily Jen, senior research analyst at PitchBook, a Morningstar company.
There are also ETFs on the market that straddle the line between public stocks and private companies.
Here’s what investors need to know about investing in these types of funds, and what they can learn about a future where traditionally private funds become accessible to more public investors.
Inherently risky, long schedules, and little financial information
Private equity typically focuses on established companies seeking restructuring or growth capital, while venture capital targets early-stage startups with high growth potential. In any case, these investments are inherently risky and have longer investment timelines.
Private companies held within exchange-traded funds are illiquid, and there can be a discrepancy between the value of the underlying securities and what individual investors are willing to pay for the fund. Some funds are available only through selected brokerages and minimum investment amounts may apply. There’s a lot of attention right now on how to make money investing in private companies, but investors need to be careful, financial advisors say.
Which fund you buy will depend on what your brokerage firm offers.
SophieFor example, it provides access to certain funds that are not available at other brokerages. Private and venture funds on Sofi’s platform include ARK Venture Fund (ARKVX), CAZ GP Stake Fund (Chegix) and Cashmere Fund (CSHMX). Like other funds, robin hood Ventures Fund 1 (RVI), Destiny Tech100 Closed-End Fund (DXYZ) and Fundrise Innovation Fund (VCX) can be purchased at brokerages such as Robinhood and Fidelity.
Before purchasing a private equity or VC fund, it’s important to check what companies the fund owns. This is especially important if you want to access certain well-known private companies that are on the verge of going public or have announced plans for an eventual IPO. For example, ARK Venture holds OpenAI and Anthropic as some of its top 10 holdings as of August 31st. Robinhood Ventures Fund 1’s top holdings include fintech companies Ramp and Revolut, as well as OpenAI.
Many of our portfolio holdings are privately held companies, so we don’t need to verify their financial information. Also, keep in mind that there is often not a lot of public information about the companies in these funds, especially if they are early stage startups. “You can find much more information about OpenAI than you would for a company just starting out,” Zheng says. “You have to accept that and understand that it’s a risk.”
Don’t invest if you might need to cash out next year
Adrianna Adams, head of financial planning at New York-based financial planning firm Domain Money, said investors’ schedules are an important consideration because the assets in these funds are not liquid. “These are meant to be long-term investments,” she says. “If you want liquidity for next year, you haven’t had a chance to really start investing yet.”
When considering a fund, investors should check the funding policy. Can it be bought and sold like any other stock, or can it only be bought and sold by a set percentage each quarter?
On the debt side, this has been a major issue in the private credit world this year, with many investors rushing to exit and being blocked by large alternative investment fund managers based on redemption prospectus provisions.
Investors should also consider their financial goals and whether they can afford to lose their investment. Also, can you withstand the volatility that comes with these funds? Mr Adams said he would not object to the investment if the client had enough income to recover from the loss and it did not jeopardize their goals.
Prices may be high
Rami Sarafa, CEO of Cordova Advisory Partners in New York, said investors need to be aware that fees for private equity and venture capital funds are typically significantly higher than for index funds or ETFs made up of shares of publicly traded companies. Expense ratios for these funds range from 3% to high 4%. Some investors may also pay higher fees depending on the brokerage firm where they purchase the fund, Sarafa said.
Among ETFs that can give investors exposure to private companies, the net assets of illiquid investments are relatively minimal under SEC rules, which limit them to no more than 15% of public funds.
One option is the KraneShares Public-Private AI & Technology ETF (Azix). The expense ratio is 1%, but as of September 30, the top 10 stocks are all public companies, while the top private stocks have both anthropic and polymarket exposure. The majority of holdings in the ERShares Private Public Crossover ETF (XOVR) is also a listed company. The company’s top privately held stock is a special purpose vehicle tied to SpaceX stock before it goes public. The expense ratio is 0.75%.
Many retail investors should not exceed 10%
Daniel Millan, managing partner at Cornerstone Financial Services in Southfield, Michigan, said the appropriate allocation depends on an investor’s risk tolerance, time horizon, liquidity needs and other factors.
Individual investors should generally invest no more than 10% of their asset allocation in alternative investments. Alternative investments include private equity and VC funds, private credit, cryptocurrencies, and real estate. So, depending on the composition of your portfolio, your allocation to private equity and venture capital funds could be significantly reduced, perhaps to between 2% and 5%.
“Regardless of your overall wealth level, the more cash or liquidity you already have and the longer the time horizon, the larger your pro-rata percentage could potentially be,” Millan said.
Many advisors are reluctant to recommend private equity or venture capital funds to inexperienced investors. Rather, they typically only recommend it to clients with a net worth of more than $1 million and incomes of more than $200,000 individually or more than $300,000 with a spouse or partner.
Adams said while the recent increase in access is great, it doesn’t necessarily mean it’s a good investment or opportunity. She had a client who was saving for college in a brokerage account who was considering putting money into a private equity fund. But tying up those funds was too risky because they would need them within a few years to pay for their children’s college educations. However, if you eliminate college tuition costs and have extra funds while continuing to save for retirement, you may be able to take on liquidity risks and be in a better position. However, “just because it’s more accessible doesn’t mean it’s in your best interest,” Adams says.
—CNBC’s Sharon Epperson and Hugh Leask contributed to this report.
