Curious About Private Markets? For Investors, Access and Understanding Are Key

Kunal Kapoor: Good morning, everybody, and welcome to our latest episode of our LinkedIn series. I’m excited to be here and to build up from a previous session we had done on public-private convergence. And I’m joined today by two of my colleagues here in Chicago. My colleague Sanjay Arya from our Morningstar Indexes team, and in Seattle, my colleague from our PitchBook team Dan Cook is here, too. Excited to have you guys here, welcome. We are going to delve right into a topic that is on everyone’s minds, which is that the private markets are seemingly booming, and you can’t pick up a paper these days and not read about the fact that there are fewer companies going public, that more debt is being issued by private issuers, and most importantly, that suddenly private markets, which were the purveyor of institutional clients, are suddenly starting to become accessible to retail wealth clients as well. And so Dan, what’s going on here? Is this real? Do you really see signs that there’s a change afoot in terms of who’s going to be able to access these markets, and does it matter?

Dan Cook: Absolutely. I think on the institutional side the growth has been going on for some time. I started at PitchBook in 2012, at the time, the markets were under $5 trillion on the closed-end side; they’ve tripled today to $15 trillion, and we project them going between $20 trillion and $25 trillion in the next five years. You can also look at allocation trends within public pensions that have grown by 50% from 9% to 14% since 2020. So we just see a lot more money flowing into these markets. I think the benefits of diversification have been well established. These are uncorrelated asset classes. Some of them exhibit outperformance of the S&P, private equity in particular. So, I think the evidence is there that these markets have been growing. They’re really valuable to portfolio construction. I think that has piqued the interest on the retail side, but also, the industry has benefited from institutions growing their allocations. I think those are starting to saturate, and they’re looking for that next pool of capital to continue their growth.

On the retail side, I think where there’s the right liquidity and risk tolerance, there’s always been appetite, and the question is about access. There’s this notion that you need to be able to access top managers, but our research has shown that even randomly selecting private equity managers can increase returns and reduce volatility. So, there are a lot of benefits to just adding it to the construction of the portfolio. And I think in order to facilitate this change, we’re going to see a change to the vehicle structure from closed-end to more semi-liquid interval funds, periodic redemptions, things you continue to hear about, and I think that that’s where the questions are about what supports that liquidity et cetera. And so have to get into that stuff today.

Kapoor: Great, and Sanjay, maybe you can build on that because Dan started to get to some important points. But the reality is as much as there’s interest, there are barriers to adoption. Can you talk a little bit about what some of those barriers are and what you think is going to change to maybe lower the threshold for adoption?

Sanjay Arya: Sure, Kunal. And glad to be here. I think the first thing when you start investing in an asset class, or in this case, private equity or private credit. I think the first thing you want to do is understand the behavior of that asset class. And I think one of the things which clearly is lacking at the moment is having an index or a proxy that actually tells you what the behavior of this asset class looks like, what are the risks, what are the returns? What is the composition? There’s no gauge out there that you can use. I think that’s a good starting point for investing in any asset class. The other thing, if you have choices, a plethora of choices, how do you make an evaluation of those choices? Could be funds; that’s fairly nascent, I think there needs to be more investment that needs to go in there. And then thirdly, for people especially on the retail side, people who are interested in getting into the space and want to invest, it’s not that easy. I think there are no easy marketplaces where you can go and trade these things. So, all of these things are known, but we also see a lot of encouraging signs at the moment that there are a lot of firms and people who are working toward that.

Kapoor: Yes, Sanjay, we’ll come back a little later and talk about how some of these issues can be solved. But Dan, I want to give you a chance to weigh in on this topic.

Cook: I think the biggest blocker that comes to mind for me, especially over the last five years, is just capacity. If you look at the venture market going back to 2020, we saw what happened when there’s too much money chasing too few deals. Valuations increased, returns are muted, and I think on the private equity side, the private credit side where they don’t have to deal with the same tourist investors—nontraditional investors coming in and competing for deals—they cap their fundraising because they’re aware of the trade-off between maximizing returns and how much money they can actually put to work. I think it’s a function of just growing at the right pace. And so I think now is the time where they’ve tapped those pools of fundraising capital that’s available to them, they’ve generated returns. They’ve proven themselves. There are frankly more people that can do this work—price these deals, find these deals, et cetera. So, now they’re ready to kind of look to alternative sources and continue the growth that they’ve had over the last 10 years.

Kapoor: I think everything you guys are pointing out is true, but I imagine a lot of people watching, especially if you’re sort of a long-term observer of these kinds of things, people may be wondering about timing. Are people suddenly getting access to these asset classes after a period where they’ve done well? After a period where, again, as you said, they can’t find maybe new pools of capital to put money to work. And so the question is, Dan, sure, historically correlations have been off, but is that going to stay the same way, are returns going to erode as more money comes in? And then I want both of you to maybe talk about expenses and what might happen there because it’s not cheap to invest in these asset classes.

Cook: I’ll touch on the idea of more money coming in and muting returns, that very well may be the case. But I would caution against looking at what’s happened with the venture market and unicorns through 2020 as a case of past performance may not indicate future results. I think the venture industry has learned a lot of lessons. There’s been a big paradigm shift away from blitz-scaling companies throwing a bunch of money at the problem, living with negative unit economics, and gaining market share, and then figuring out profitability. Now, there’s a refocus on profitability, and I think …

Kapoor: Like public market investors.

Cook: Exactly, and that’s part of the convergence of those markets is alignment in thinking about how businesses should grow and scale. So, I think in the venture market, I would not look at what’s happened in the last five years, what’s happened with mutual fund exposures, and expect that to continue. Certainly, I don’t have a crystal ball, but I think it’s a good benefit to investors to be able to access those companies earlier. Because as they exist today, they’re accessing them in the public markets even later and still getting burned in many cases. When it comes to private credit, private equity, and some of the more legacy industries, I think those are less volatile and able to scale and take on more capital and find good deals.

Arya: Just to add to that, I think the way we approach the change that is happening, and we feel it’s a secular shift that is actually the way capital formation is happening these days. So, it’s not, in the past, it used to be a young company, it raises some capital through whatever means, and then once they want to grow bigger, they would actually go to public markets, and that’s where the capital was. That’s changed a lot in the last two decades or 25 years. We’ve seen publicly listed companies shrinking, private companies growing, and it’s a function of it’s easy to access capital for these private companies and broadly speaking, when we look at the equity investable universe, I think about 2% used to be in the venture space, today that’s close to about 9%. If you’re looking for equity investment, there’s no way you can ignore this marketplace. So, it’s a journey. I think we all have to recognize these trends are here to stay and how can we help investors with bringing more transparency and ease of access as far as investing is concerned.

Kapoor: I was going to wait to get to audience questions, but we’re getting a bunch of them, and some of them, I think, are quite timely for this part of the conversation, so I’ll throw one out. From Ferris Ahn at Alpha Capital, who’s asking how do you overcome accreditation qualified investor limitations that obviously limit who can participate in these asset classes today?

Cook: That’s a great question. I did have some notes on that. We talked about blockers. It’s regulation. I think that’s something that we would need a regulatory shift in, and it may be a case that you need to be a high-net-worth investor. I do look at 401(k)s as an area that makes a lot of sense to unlock for private markets. They have longer time horizons. We’ve seen a big shift from defined-benefit pension plans to 401(k)s. So, people’s retirements have had access to these markets for quite some time, and right now, they don’t. So, if regulators make it a priority—I think they should—I think that’s the only way that that gets unlocked and that they expand access.

Kapoor: Great, and we’re certainly seeing a whole lot of vehicle types as well starting to manifest themselves and provide access in different ways, and they’re coming with lower minimums, and potentially, State Street and Apollo are even trying an ETF. So we’ll see what ends up happening. The space is certainly moving fast.

Sanjay, I wanted to kind of transition to the Morningstar PitchBook Unicorn 30 Index, which we just launched. Obviously, I want you to talk about what it is, but there’s a good question here from Caleb Lopez at University Wealth Advisors asking: Is it actually investable like an ETF, or is it purely for tracking purposes? And do advisors need to find private managers for their clients? So, can I start by just having you explain what is the index and then maybe get to Caleb’s part of the question around whether it’s investable and how people could get access to it in that way.

Arya: Sure. I think this is the first time anybody’s actually created an index like a public equity index where you’re going to start with what is the opportunity set, and you start with the set of securities and kind of build a daily mark-to-market index. What we try to do is look at the late-stage venture marketplace. The venture space is about $8 trillion. I guess late-stage is home to more-mature companies, companies that actually have good product market trend, growth, a lot of revenue. In some cases, they’re very profitable as well. Very innovative companies. So, the idea is these are pre-IPO companies. How do we provide more transparency into this marketplace? And a couple of things we focus on: replicability, which means is it easy to replicate this portfolio, and representativeness, is it representing the broader asset class. Which I guess are two key principles that the CFA Institute outlines for an index to be a good proxy for the marketplace.

And the index, the way we’ve designed it, is investable. We look at the pricing that we use for this we use a lot of secondary-market sources. It’s not going to be an ETF-worthy product because unlike public markets where securities are listed on an exchange, they trade intraday. The transactions are still not that frequent, but nonetheless, there are a number of secondary trading venues where you can actually trade these securities and invest in. So, over time, I think we expect asset managers to be able to use this product to create a basket that then can be created in perhaps a different structure, but certainly, it’s investable.

Cook: To add on that, too, really quick. These markets, these secondary markets, are growing, and we’re seeing venture firms build strategies around accessing companies exclusively through these markets. G Squared is one that comes to mind, Manhattan Venture Partners is another. They’re raising close to billion-dollar funds, and they build their allocations through these markets. On the other side of the trade, there are also legacy investors that have closed-end vehicles that need to find that liquidity as well as insiders. And I think these markets are going to continue to grow and mature. And I think there’s a playbook out there that we’re seeing happen with private credit right now. We saw it happen with REITs previously. And I think there’s just more pricing information and more trading activity happening. That continues to unlock tools like this.

Kapoor: Just to build on that, Jack from Wells Fargo Advisors is asking, private markets now are getting capital through evergreen funds, nontrade NAVs, and 1099 products. And they’re obviously nontraditional investors who are buying these as opposed to traditional LPs. And so, his question is, is there a concern that that’ll end up pushing valuations to unreasonable levels? You’ve kind of touched on this. But the point being, do they get to levels where there are so many private companies available so that IPOs keep diminishing even further and bank lending continues to decline because that option becomes more attractive?

Cook: I’d be careful about saying how much of that is happening right now. I don’t think there’s a ton of that happening in the venture space, which is where we typically look for new companies to enter the public market. Obviously, private-equity-backed businesses can go public, too. But the private equity side, private credit, real estate in particular, is where we see these semiliquid vehicles gaining popularity. I think if you look at the public seven alternative asset managers, almost 40% of their AUM is in semiliquid. When you dig into it, some of them are separately managed accounts for big insurance companies. A lot of them are real estate-earmarked. So it’s still very early for some of the traditional private equity venture capital where we see a lot of the closed-end resources. And in terms of the effect it’ll have on valuations, I think there’s a right way to do it. I think there’s a growth rate that’s sustainable. And I think if we maintain that growth rate in the market, I expect returns to stay on track. They’re always going to fluctuate a bit, but I don’t think it’s going to be a case of too much money chasing too few deals if managers are intentional about how they fundraise and how much capital they take on for these strategies.

Arya: Just to add to that, I think the question was, with more investors coming to this marketplace, does it create valuation? I think it’s actually a good thing that there are more investors coming because a lot of the new investors who are coming, these are nontraditional investors. Their duration, time horizon, expectations—they tend to be different. And what it does is it brings a lot of liquidity to the market, or it creates more appetite to be able to transact these securities on wherever platforms people can. We see a lot of hedge funds and crossover mutual funds, sovereign wealth funds. All kinds of investors are getting in the market, and I think it’s only going to bring a little bit more liquidity in the marketplace. So, I think it’s a good sense the companies don’t go public. I think it just kind of creates a little bit more ecosystem where there are more investors coming in. And in fact, I think it’ll actually lead to better price discovery in this space as well.

Kapoor: Sanjay, just to keep building on that, one of the questions from Will at Flyway Technologies is, I see some other private market indexes that may be available, and specifically back to the Morningstar PitchBook Unicorn 30, how does that differentiate itself from what else is available? You started to talk about the path to investability, but maybe double-click on that for people as well.

Arya: Sure. So, Kunal, I guess we started this initiative three years ago, and I think we started looking at pricing was by far the biggest friction point, we thought. If you have to create a public-market-like index where you have something that the market agrees on, what the value of the underlying assets is, if you’re going to include it in an index, is it tradable? Can anybody replicate it? And I think iteratively, I think we’ve gotten to a point where there’s more and more data. There are a lot of data providers. There’s a lot more transaction data that is available in the marketplace. So, for example, SpaceX, recently there is a funding round at $350 billion, which was up from $180 billion. I think the market is already trading. There’s a lot of information that’s available in the marketplace there’s some price discovery happening in that space where the trend is to, I guess, the price was closer to where the next round of funding is happening. So, having the ability to bring in pricing sources that actually are more reflective. If you want to do a transaction or buy these securities closer to where the market perceptions are, I think it’s helpful. It makes it a little bit more, the value becomes a lot more closer to where the market consensus is going to be. So, I think our view is this is a unique element of the index where we are looking at the actual transaction prices as opposed to something that’s more backward-looking.

Kapoor: And Dan, what kind of companies are actually going in there? So, when you talk about unicorns, people kind of understand them at a high level, but how are we deciding what’s going in there, and why does that make it better?

Cook: So, the main thing is liquidity and availability. That’s the main filter that differentiates this index and makes it something that we hope will be an investable product. But I would add that the strategies you’re seeing out there today, a lot of interval funds, we’ve talked to a lot of them, great funds, great strategies, but not rule-based. They can be overindexed to a single asset, and they also maintain a big cash position to meet the redemptions, which affects returns. And so, what we’re trying to do is create a rules-based index that’s representative of the market. They can act as a benchmark for those products. And I think that’s a really big difference. And so, getting back to your question about how do we choose these 30, certainly, the bigger ones tend to have more liquidity, and I think it also tends to skew North America and Europe. So, for us, I think we want to continue to scale these kinds of products as there’s more liquidity for more companies.

Kapoor: Go ahead, Sanjay, and then I’ll ask a question.

Arya: I think a good analogy would be what we’ve seen in fixed income over the last 50 years. Fifty years ago, if you wanted to trade bonds, it was by appointment. There was not a lot of liquidity available. Over time, as the markets have grown bigger and there’s been a lot more innovation happening, the market’s actually quite liquid, especially on the Treasury and the investment-grade side. Twenty years ago when the first fixed-income ETF came to the market, there were a lot of skeptics who never thought this is actually going to be feasible. Spreads are going to be very wide. But I think some of these innovations actually help. If you have an indexlike basket where it’s very transparent, it’s visible—it just attracts a lot of investors. It kind of helps people understand where the price discovery is going to happen. And we feel that this could actually unlock the understanding, the behavior, the pricing, and make it more liquid.

Kapoor: Dan, Helen from Andes Risk is asking back to your point about the benefits of diversification here. She’s a skeptic, I think, and she’s saying how much of it is due to private equity investments not being priced daily? If an investment is priced monthly, quarterly, or annually, it masks the fluctuations.

Cook: So true. When we do our analysis, we have a process where we de-smooth the returns to get a truer sense of the volatility. Without getting too quantitative on you, we look at the autocorrelation from quarter to quarter.

Kapoor: You can get quantitative on Helen, I know her.

Cook: OK. It’s a pretty well-established process in real estate and things like that. But basically, how much does the prior quarter’s holding value influence the next quarter’s holding value. And it’s not a perfect system, but we are de-smoothing these returns. We are trying to get a truer sense of their volatility and looking at the impact on the overall portfolio, and the risk reduction is material. Now, we’ve only done this analysis for private equity traditional buyout-backed funds. I’d love to extend this analysis. I do think it’s a very academic question of what is the value of private equity? Is there a liquidity premium? Do they justify their fees? And there’s academic literature going back decades about PMEs [private market equivalents] and all kinds of different ways to try to compare these returns. How do you take a money-weighted return and a time-weighted return and compare them? And I think the methodology we’ve come up with where we just take a 60/40 portfolio, and it’s basically a Monte Carlo simulation where we’re adding random private equity managers, the returns we see are real.

Kapoor: Dan, you started to answer this question, but just to build on your answer. Looking forward, what are some of the improvements, the enhancements we’re likely to see in the industry? And more importantly, as we talk about access broadening, what are the kinds of tools we’re thinking about making available that will be helpful to folks?

Cook: I think it starts with fund structures, right? And I think there needs to be an ecosystem there that supports redemptions. I look at secondaries' fund strategies, which had a record fundraising year in 2024. They raised over $100 billion to go buy fund stakes. And so, if you can imagine a world where there are more semiliquid vehicles with more assets that are looking to meet their redemptions. If there’s a more robust ecosystem that can buy those stakes, that has a pricing mechanism and a strategy built against it, I think that starts to support the scaling of this trend. For us at PitchBook, though, our job is to help navigate the opaque nature of these markets. And we’ve got a suite of tools that bucket into categorization, scoring frameworks, risk models, indexes. And those tools can help you understand an investor’s strategy, whether they specialize or generalize. We have track-record evaluation tools, and we also have cash flow models that help you hit your target. I think we’ll continue to build on that suite. In terms of what’s next for us, I can’t reveal too much, but we are looking at providing greater transparency across the financials of these businesses, et cetera.

Kapoor: And I love that you’re going to transparency because it’s at the heart of our mission of empowering investors. And so, final word, Sanjay, before we wrap up, what are the couple of things that need to happen on the transparency front to drive adoption?

Arya: I think, if you look at the public markets, public equity markets, I think one of the things that have been really instrumental over the last 100 years or so, I think indexing actually has helped kind of provide a lot more transparency. It helps people understand where the market’s heading. It helps people understand how to benchmark manager performance. And also the passive side of the business as well. Likewise, I think there’s a lot that can be done in this market. These are still evolving, very nascent markets, and our goal is to continue working on this area. So, just a couple of things I’ll highlight. We obviously have the Unicorn 30, which actually provides you insights about the late-stage venture. PitchBook has a suite of benchmarks. You know, if you want to look at comparing fund managers, I think it kind of provides you great insights in terms of what is the dispersion within that area.

On our front, I guess there are two things that we’ll be working on. One is, how do we go a layer deeper from the broader market? I guess PitchBook on the public market side. Everybody’s familiar with the sector industry indexes. Something akin to that, PitchBook has research on industry verticals. These are innovation economies, sectors, if you will, where you look at AI, fintech, and biotech. So those themes. I think we are also going to convert that into an index so people can understand, what are the behaviors of those segments of the market. And then lastly, I think where we are headed is in the portfolios of investors are going to combine public and private market securities. And that’s a new domain. I think we’ve never seen that on the retail side. So, for us, I think how do we create crossover indexes where we bring in public markets and private markets, even though they are all equities, but they behave a bit differently. And how do we make it simpler and easier for people to benchmark their investments?

Kapoor: Right. We’ve been successful in doing that actually on the private credit side already, and those are investable. So, the model is in place as the markets develop for that. Thank you both for joining on what is a topic that has a lot of interest. I didn’t get to all the questions that are coming in. There are questions about how do you access quality managers? How do you think about employee-sponsored plans? And other questions here as well that we’ll try to tackle through our research. But I appreciate everybody joining. This is obviously a topic that is going to get a lot more play, and we’re going to keep helping you navigate all of it as it develops. So look for more news from us in the year ahead in terms of the things we’re going to do to help you find your way through this developing space. Thanks, everyone, and have a good day.