SEC Advised on How to Offer Private Assets to the Masses Safely

The Securities and Exchange Commission headquarters in Washington, D.C. (Daniel Heuer/BloombergBloomberg)

Key Points

About This Summary

• SEC panel suggests using registered vehicles like mutual funds for small investors in private markets.
• The report cautions against direct investing, suggesting safeguards and scrutiny for hard-to-sell assets.
• The committee suggests investor education, liquidity, and revised accredited investor definitions.

With private asset managers and President Donald Trump clamoring to open private equity and credit funds to retail investors, the U.S. Securities and Exchange Commission convened a panel of experts last week to consider how.

The best way to bring small investors into private markets is through registered vehicles like mutual funds, interval funds, and exchange traded funds, said the SEC’s Investor Advisory Committee in a draft report presented Thursday. Historically, closed-end mutual funds have been prohibited from putting more than 15% of their assets into stuff like private equity. The committee says the allocation to private assets should be up to a mutual fund’s advisor and its board.

The committee seemed more wary of direct investing by small investors in private markets—saying that it took no position on the matter, but suggesting a number of safeguards if direct investing is allowed.

“There is investor demand for these products,” said SEC Chair Paul Atkins at last Thursday’s meeting. “But, we also must have appropriate guardrails.”

The committee’s 28-page report acknowledged arguments for opening up private investments, including the shrinking number of public companies and more multibillion-dollar “unicorn” businesses. But it also noted that fund managers’ eagerness for retail money coincided with a waning appetite among institutional investors for private-equity funds.

“There is concern that some assets being funneled into
retail vehicles may be hard-to-sell assets that funds geared to institutional funds are unwilling to retain or are interested
in selling,” said the advisory committee. “[T]he safeguards proposed in this Recommendation will do little to protect retail investors if they are essentially investing in hard-to-sell assets that have been rejected by institutional investors.”

To protect small investors, the report suggests they be told how the non-trading assets in private funds are valued, since those values can be hard to pin down and yet they drive fees, performance figures and payouts. Fund directors must be held responsible for valuations and SEC examiners should focus on those numbers.

Retail investors should be allowed more liquidity, suggested the committee. Today, the type of fund known as interval funds” are only allowed to redeem investments quarterly, without SEC permission. Monthly payouts might make sense, said the report.

The committee refrained from endorsing direct investing in private markets by those who aren’t wealthy. There have been calls in Congress, the administration, and the SEC to redefine the “accredited investor” who is allowed to put their money in private funds under the SEC’s Regulation D.

Currently, Reg. D offerings are limited to individuals with incomes of $200,000 and households with $300,000; or to those with $1 million in net worth, not counting their home.

If that definition of accredited investor is changed, it should become based on an investor’s sophistication—as demonstrated by their having a credential, such as a Chartered Financial Analyst, or their passing an accredited investor test that developed by regulators.

Alternatively, said the committee, individuals might be permitted to invest in private assets, up to 10% of their annual income, 10% of their net worth, or 10% of their investments in securities.

One last caution from the committee related to retirement assets. Nearly a third of accredited investors today count their retirement funds toward the wealth test. Less wealthy investors might be less able to endure the loss of retirement money, so the SEC should examine whether retirement funds should be excluded from counting toward retail investors’ qualifying for private investing.

Write to Bill Alpert at william.alpert@barrons.com