Private equity has remained a powerful part of investing, but many people still misunderstand the concept. Whether you’re an expert investor or a beginner, knowing how it works and how you can benefit from it is important.
Private equity is an investment class involving capital not listed on public exchanges. It offers a unique opportunity for growth and diversification and may come with higher risk. This investment option continues to grow more popular among institutional and individual investors. Below, let’s discuss every important detail about this subject.
What Is Private Equity?
Private equity is a form of investment in private companies or assets, including those not publicly traded or listed on stock exchanges. It mostly involves institutional investors, private equity firms, and high-net-worth individuals pooling funds to acquire ownership stakes in businesses while targeting high returns.
Most of these investments are made through private equity funds or limited partnerships, often managed by general partners. These general partners handle the investment strategy, operations, and subsequent exit. It is a great way to add alternative investments to your financial strategy. Private equity can take several forms, including:
- Venture capital
- Growth capital
- Leveraged buyout
- Distressed asset investing
- Fund of funds
- Secondaries
- Real assets and infrastructure
In a typical leveraged buyout, one company acquires another through a mix of equity and significant debt. This aims to increase the company’s value before selling it and taking it public. Unlike public markets, private equity investments usually lack liquidity and have a long-term horizon, typically lasting five to ten years.
However, due to active management and expert transformation, private equity investments offer the potential for higher returns. Investors usually consider this option not just for the high potential return but also for portfolio diversification since private equity does not always correlate with public markets.
How Can Investors Access Private Equity?
Private equity has always been associated with institutional investors and individuals who meet certain wealth and income requirements. However, recent innovations have made this investment option more accessible to others. Here are some ways investors can tap into private equity.
Direct Investments
Direct investments involve investors purchasing ownership stakes in private companies without going through a fund. This approach is mostly suitable for experienced investors, institutions, or family offices with substantial capital and industry knowledge.
While direct investments offer greater control and the potential for higher returns, they also come with higher risks while allowing less diversification. Investors must sometimes participate with private equity firms in the same investment pool, allowing them to leverage their professional managers’ expertise.
Private Equity Fund
Investors can also access private equity through funds, which pool capital to acquire and manage private companies. These funds are usually handled by general partners who oversee the investment selection, management, and eventual exit.
Investors, known as limited partners, commit capital for a fixed period, sometimes up to ten years. This method allows for diversification across several investments. Although private equity funds have a high minimum investment, they offer access to opportunities unavailable to individual investors.
Multi-Manager Fund
Investors can access private equity through multi-manager funds, also called fund-of-funds. This option involves investing in a diversified portfolio of private equity funds. However, this type of fund is managed by firms that choose and allocate capital across multiple managers, strategies, and locations.
This approach to private equity provides constant diversification and cuts the risk by spreading investments across numerous funds. It’s great for investors willing to commit their money with less direct involvement.
Private Equity Marketplaces
Private equity marketplaces offer accredited investors a more accessible way to participate in private equity opportunities. Platforms, such as the HIIVE private equity marketplace, connect investors with vetted private companies, making it easier to manage transactions smoothly.
These private equity marketplaces offer greater transparency, smoother access, and a wider range of investment options. They’re particularly useful to people looking to control their investments while diversifying their portfolios. However, you must always do your due diligence before committing your money.
Factors to Consider When Investing in Private Equity
Investing in private equity is different from investing in other asset classes. You must consider several important factors before putting your money into private stock. These factors include the following.
Low Correlation to Public Markets
One important factor to consider when investing in private equity is its low correlation to public markets. Daily market volatility does not influence private equity investments like public assets, so they offer some degree of protection during market downturns.
This factor can effectively improve your portfolio’s resilience and stability in the long term. Since private companies are unaffected by public trading pressures, their value often reflects fundamental performance instead of market sentiment.
Illiquidity
The lack of liquidity is a major factor to consider when investing in private equity. These assets require a long-term commitment since capital is sometimes locked for up to ten years, with limited opportunities to sell early.
Unlike publicly traded assets, private equity cannot be easily converted to cash. This can be a problem for investors who need quick access to cash. You must be ready for the long game before jumping in.
High Potential Return
Investors are attracted to the high potential returns from private equity investments. By targeting undervalued or high-growth companies, private equity firms can generate substantial gains through strategic improvements and market expansion.
Successful investments can create significantly higher returns than public assets. However, these investments come with higher risks, longer holding periods, and complex deal structures. Investors must compare the benefits and risks before committing to any private company.
Larger Opportunity Pool
Investing in private equity can give you access to a larger opportunity pool. The private equity market includes a large number of companies that are not listed on public exchanges, giving investors access to a diverse set of opportunities.
This can lead to profitable deals in emerging industries, niche markets, and early-stage ventures with high-growth potential. Investors should consider partnering with experienced managers or private equity advisory services to identify and evaluate these opportunities.
Endnote
Private equity investments involve putting money into stocks that are not traded publicly. Investors can access private equity through direct investments, private equity funds, private equity marketplaces, and multi-manager funds. Before investing in private equity, you must consider its illiquidity, low correlation to public markets, high potential returns, and larger opportunity pool.
