Launching a private markets program: part 1 - build

The operational demands of building a private markets program for your practice can seem daunting, particularly compared to the familiar processes involved in investing in public markets. 

Launching just a single fund vehicle involves: 

• Determining the appropriate fund structure for your clients

• Selecting a strategic mix of assets that meets your clients’ objectives

• Sourcing, diligencing, selecting, and accessing investments for the fund

• Form your fund, necessitating a significant volume of documentation

However, the uncertain macroeconomic outlook and rising demand for private markets among clients suggest that establishing a private markets program may be essential to the future success of an advisory practice.

Here is a breakdown of just a few major considerations when standing up a private markets fund or program - and how Opto may be able to help.

Select the appropriate fund structure

Selecting the right fund structure is crucial for private funds, as it dictates the fund's compliance responsibilities, investor pool, liquidity constraints, and operational limitations.

Whether the fund should be a traditional closed-end drawdown fund or a structure that offers some degree of liquidity (such as a tender offer or interval fund) depends largely on the illiquidity tolerance of your client base and the liquidity profile of the underlying investments.

Private funds are not publicly listed, but are still subject to regulation. They are typically organized under legal exemptions referred to as 3(c)(1) or 3(c)(7). The preferred exemption depends on the investor qualification (see end of article) as well as the number of prospective clients and the targeted scale of the fund.

Optimize asset allocation

Determining how to best build a fund of funds that integrates private markets investments into your clients’ portfolios requires extensive analysis. Among other factors, you need to understand how including different asset classes and strategies can affect overall risk, liquidity, income, and return potential.

Client goals vary considerably, which means it may make sense to create multiple funds with different asset mixes to meet different client goals.

Source, diligence, select, and access investments

Selecting a private markets fund or investment is typically a more challenging process than selecting a public security or fund, for several reasons:

1. More limited information: There are no public ratings to help you judge the quality of private funds. While there are data sources that can provide historical performance data,  unless you have a broad network of industry contacts and in-depth knowledge it can be difficult to discover managers and then develop a holistic view of their quality.

2. More in-depth due diligence required: Most private markets funds are “blind pools.” This means you do not necessarily know the precise companies or assets in which you will invest at the time of committing capital to a fund manager. In effect, you are trusting and investing in a team and the stated fund strategy. The range of outcomes is also much greater for private markets funds. Combined, this makes a detailed due diligence process absolutely crucial, including examining a manager’s track record, investment philosophy, and personnel, among other facets, which may demand significant time and resources if attempted in-house.

3. Selection ≠ access: Sourcing and selecting are only half the battle. Many of the most well-regarded managers are “oversubscribed” - meaning they have far more demand to invest in their fund than their target fundraise amount. Many of the most coveted funds are difficult to access without established relationships or a strong reputation as a reliable investment partner.

Form your fund

Once you have decided on a fund structure, the asset mix, and moved into investment selection, you need to initiate the legal formation of your private markets fund. This typically involves processing a high volume of paperwork, including drafting limited partnership agreements, private placement memoranda, subscription agreements, investment management/advisory agreements, and filing regulatory and compliance documents.

This is part one of a three-part series, laying out how Opto is a truly end-to-end solution for RIAs and family offices to do private markets better. Read part two on “the fundraise” here, and part three on “the management” here.

To learn more about Opto, email us at partner@optoinvest.com, or schedule a demo: www.optoinvest.com/#learn-more.