Accompanying rising individual investor interest in private equity is a push to make private markets more accessible to those investors.

Currently, private equity is limited by the Securities and Exchange Commission to so-called accredited investors who meet certain criteria, such as having more than $1 million in net worth (not counting the value of their primary residence) or an annual income of $200,000 or more (individually) or $300,000 (with spouse or partner) in each of the prior two years, and reasonably expects the same for the current year. But in recent years, some members of Congress have proposed loosening these requirements. If those efforts go through, investors with fewer assets who can demonstrate they understand the details of private equity investing may be let through the gates.

Perhaps in anticipation of a bigger group of potential investors, some types of private equity investments are allowing minimum investments of $50,000 or $100,000—compared with, say, $1 million or more in the past.

Perhaps not surprisingly, investing in private companies that lack the scrutiny of analysts comes with some important risks and other unique characteristics to consider. For example:
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​Cash flow risks

Once you have committed to a particular private equity investment vehicle, you may need to provide capital on short notice when the manager identifies an investment opportunity and wants to move fast. This has the potential to lead to a cash flow crunch that could force you to sell other assets to raise the amount needed.
Illiquidity risks

Private equity is a long-term proposition. In general, once you commit capital, those assets are essentially locked up for years before you should expect to see a return on your investment—the idea being that management of a young or expanding business can’t maximize the firm’s potential if it’s worried about money flowing out of the company coffers. Although there can be some flexibility here depending on the investment vehicle (more on that below), it’s best to assume your capital will be inaccessible to you for an extended period of time and to understand what (if any) risks that could mean to your overall financial plan.

Payout risks

Once private equity funds start paying distributions, it’s often a tiered process in which your capital could be returned to you in chunks over a period of years—not all at once. In short, there are potential liquidity and cash flow risks on both the “front end” and “back end” of private equity investing, along with the frustration of waiting to see your return.

Transparency risks

Shares of publicly traded companies (such as those in an index like the S&P 500) are regulated and closely scrutinized. In contrast, private businesses don’t need to disclose nearly as much information about their operations as do their public cousins. There’s also less transparency in how private companies are valued and the reliability of those valuations. Finally, lack of transparency can make it difficult to do apples-to-apples comparisons between various private equity investment portfolios and their returns over time.
Investment options

Those interested in private equity have a few options for their investment capital. A traditional approach is to invest in a ten-year, closed-end private equity fund as a limited partner. The manager/general partner raises capital for a set period of time, after which no new money is added to the fund. That capital is put to work in private companies for (ideally) a ten-year time period, during which investors cannot access their funds. These funds face the risks outlined above, and in practice they often don’t sell out of all their positions for 15 or 20 years.

More recently, new types of PE funds have been created. One example: Evergreen funds, which (as the name suggests) don’t have a target end date and do allow for new money to be added over time. The idea is that the assets in these funds can be redeployed repeatedly into new, promising private firms. Evergreen funds attempt to mitigate some of the liquidity risk by allowing limited partners to redeem some assets from time to time, if certain conditions are met. One risk of providing for such liquidity is that an evergreen fund could suffer losses if too many investors want to redeem at the same time and the fund manager is forced to sell assets at below-market prices.

Another (somewhat roundabout) way to invest in private equity is to invest in the publicly traded shares of firms that offer private market strategies and investments, either directly or through an ETF or other vehicle. Obviously, this approach doesn’t lead to direct investments in private companies, but it does offer access to companies that engage in private equity deals as a fundamental component of their business models and revenues.

Private equity offers potential benefits that are intriguing to a growing number of investors—especially as barriers to investing in private equity are lowered and as more types of investment options are introduced. But clearly, PE also comes with significant risks and other considerations, such as fees due to how it operates—from getting in to getting out.

Facts about fees

Private equity funds, along with many other types of alternative investments, tend to charge significantly higher fees than are charged by more traditional investment vehicles. In our experience, a PE fund’s annual management fee might range from 1% to 3% of assets, and an additional fee of 10% or more of profits once the fund’s return exceeds a particular baseline amount. Some providers may also assess a fee when investors redeem their interests. The upshot: Know the various expenses you may incur if you invest in PE, before you move forward.