Episode 34 - Understanding Private Equity Investments
In this episode of the Blue Money podcast, hosts Jim Donnelly and Kevin McGarry explore the topic of private equity. They explain what private equity is, the criteria for becoming an accredited investor, and how private equity differs from public equity. The discussion covers various private equity strategies, such as venture capital and buyouts, and highlights the risks and rewards associated with these investments. They also touch on the traditional 60/40 investment portfolio and its future viability, emphasizing the importance of diversification and professional advice in investment decisions.
To contact Retired Lt. Jim Donnelly: jim@valleyfinancial.com
To contact Kevin McGarry: kevin@valleyfinancial.com
To schedule a free financial assessment, fill out the form below.
Transcription:
Episode 34 – Understanding Private Equity Investments
10:49
Announcer 00:00:01 This is Blue Money, a finance podcast made for cops by cops. With us. You know your money safe. Retired Lieutenant Jim Donnelly of the Bensalem Police Department and co-host Kevin McGarry of Valley Financial Group come together to help protect and serve your financial needs. This is Blue Money.
Jim Donnelly 00:00:20 I want to welcome everyone back to the Blue Money podcast. This is your host, Jim Donnelly. I’m here with my co-host, Kevin McGarry. What’s up Jimmy? Not much. What’s up buddy? I thought for this episode, Kev, we talk about private equity. We get a lot of phone calls, a lot of clients ask questions, so we just. I thought we touched upon it to talk about what it is. Pros, cons, how people can get involved, who can get involved, who can. So give a little feedback on the Kev.
Kevin McGarry 00:00:44 We’ve been getting a lot of questions from the listeners and our clients on private equities and alternative investments. And the reason why is, you know, people are concerned.
Kevin McGarry 00:00:52 They’re reading about 6040 portfolio stocks, the bonds, you know, is there growth potential over there over the next decade. And the reason why they’re saying this is, is a few reasons. But the main reason is right now, you know, valuations on stocks. You know, stocks are or you know, on average, you know, a little overvalued compared to historical trends and historical averages. You know, historical average of a P of the S&P 500 is around 16.5%. Right now, the S&P is between 21.5 and 21.6%. So above above the historical averages. And historically, you know, when you get it to pass at those levels, the next decade hasn’t, you know, had great returns. They kind of been muted. And that’s why you’re hearing a lot of these asset managers and economists, make predictions that, hey, the next decade for stocks could be down to muted right. Right. So looking for other ways to generate growth. And that’s where the private equity and other alternative investments have been coming to our attention.
Jim Donnelly 00:02:03 Now for a person out there listening and they say I want to dive into private equity. I mean, the one thing you have to know is in order to do that, you need to be a creditor investor. And what that means are three things. If you’re classified as a creditor investor, one is your income. The annual income has to be at least 200 to 300,000. Combined with your spouse skills, it means you have to be a knowledgeable employee. That means you need to be in certain investment funds or a whole lot of valid series seven, 65, or an 82 license and your net worth. You got to be worth 1 million or more. You and your spouse. So you need to hit those three things to be classified as a creditor investor, to be able to jump into private equity yourself. If not, like you said, you have to go through somebody. So, Kevin, what else does private equity for? People have to explain it.
Kevin McGarry 00:02:46 Yeah. Well, the thing is, just for the listeners, you know, private equity is of, you know, a form of investment that basically takes place.
Kevin McGarry 00:02:53 It does take place outside the public stock market. When we see public stock market, you know, publicly traded stocks and the New York Stock Exchange or to Nasdaq, right. The investments you own typically in your 41K or your IRA, they’re publicly traded private equity investments outside the public sector that investors gain ownership stake in private companies. So essentially they do that through a private equity fund Jim.
Jim Donnelly 00:03:22 Yeah. No. Absolutely. And I think one of the numbers I always see out there and always heard about was when does a company go from private equity to public meeting, and when are they going to offer it the IPO and initial public offering? When is that number? And the number really is when a company reaches about $1 billion. They call that the unicorn status. That’s when you see a lot of the companies out there that will go public, and they want to try to sell some of their business off. So just remember, if you ever hear that unicorn status, that means a company got $1 billion in a private.
Jim Donnelly 00:03:54 And they’re probably going to go public soon. Right.
Kevin McGarry 00:03:56 But if you look at private equity, right. So you say, all right, I get to invest in this private equity fund, right. How do I go about that? Like typically, you know, there’s companies out there like KKR and Blackstone that do the raising of the fund. Right. And there’s multiple companies out there. So they raise the money and there’s different things that it’s invested in different forms of it and at different forms. You know, essentially for the listeners, if you think about it, there is venture capital, right? Venture capital, you’re investing in equity. It’s typically a startup. They’re trying to get something from the beginning. The grows and goes IPO. The second thing is buyouts. You know they’ll come in, they’ll buy out a firm and they’re hoping to sell it for a profit. And then there’s growth capital. Typically grow capital. The company is doing well usually looking for investors for expansion or some type of growth, you know, program.
Kevin McGarry 00:04:53 So there are ways the types of private equity. And typically as you remind the listeners, private equity, you have to be typically accredited or investor. And secondly, private equity is different in public equity. In a sense it’s it’s typically illiquid. Right. Yeah. Private equity. You typically start getting your money back. You know when something sells you’re getting a distribution sometimes as well. And you start getting that money back. Traditionally around 5 to 7 years, a public equity fund usually stays open between 10 to 12 years.
Jim Donnelly 00:05:27 That’s a long time now. It’s positive if you’re making money, but the one drawback is if you know the company is going the wrong direction for and it’s public, it’s private equity. I mean, you have a chance of losing all your money. You can’t pull the plug. Like, you know, if you have stocks in Amazon, you can just it’s going in the wrong direction. You can just stop the bleeding. But a lot of these, you know, when you’re private equity, you’re in for the long haul.
Kevin McGarry 00:05:50 You just don’t know. But but if you think about for the long haul, for stocks, typically the longer you hold the stock, the better the result is, right? Sure.
Jim Donnelly 00:05:58 But there’s companies that have fallen through the years that you wish you were to get out. Yeah.
Kevin McGarry 00:06:01 I mean, I mean, there are a lot of studies out there that say, why do you want to invest in private equity? There’s higher risk.
Jim Donnelly 00:06:08 Higher risk, higher fees, and it’s less regulated. But what’s the plus side?
Kevin McGarry 00:06:12 The plus side historically is you know there could be higher returns. Correct.
Kevin McGarry 00:06:16 And people chasing.
Kevin McGarry 00:06:17 And what you’re. But they’re really looking at right now is hey you know the 60 over 40 portfolio. Is it dead right. Right. So if it’s dead, according to some people out there, you you need some type of other investments. That’s where the alternatives. Private equity, private debt, hedge funds, you know, real estate infrastructure. That’s where it all comes in.
Kevin McGarry 00:06:37 But if you really dive into the 6040 portfolio, you mean year to date, it’s up over ten over the last year, up over eight. But if you look over the last 200 years, a 6040 portfolio of stocks, that bonds have been over 7.3%.
Jim Donnelly 00:06:53 It’s a great return, right? I mean, get that average, you’re going to double it every ten.
Kevin McGarry 00:06:56 Years, right.
Kevin McGarry 00:06:56 So there’s been fierce before. Right. And the fear right now is stocks are overpriced. And historically when we’re at what we’re at today you know, returns over the next decade haven’t been strong. So if you look at a 60 over 40 portfolio, why does someone own it? You know, they want growth potential, but they want to reduce debt. They reduce the volatility of that stock. I think the big thing here is to remember, like, you know, over the last 200 years, and this is what got 2022, got people concerned because both stocks and bonds both went down. They are highly correlated, right.
Kevin McGarry 00:07:30 When inflation is high. Stocks and bonds historically have correlated mean they behave the same way. Right. So if you think about it, you know, only 16 times over those 200 years has that happened right. As inflation comes down you hope that correlation, you know, goes away. Right. And what they’re hoping is right now do these alternatives. does this private equity, does it give us more proper diversification, less correlation. And therefore. Well, I mean, there’s nothing out there saying private equity doesn’t correlate with public equity. There’s a big debate over that. So, you know, private equity is great if you can be credited investor and you have assets to diversify your overall portfolio makes sense in certain cases, sure. But for the traditional investor, that’s not accredited. The 60 over 40 portfolio, if you’ve been.
Jim Donnelly 00:08:24 Out, it’s been solid for a long time.
Kevin McGarry 00:08:26 Right. And consistent. So you know, that’s why we’re speaking about we’re getting a lot more questions on alternatives right now on private equity.
Kevin McGarry 00:08:34 And we just wanted to bring it to.
Jim Donnelly 00:08:36 Yeah, I think at least now the listeners understand what private equity is. You hear that term out there often or when they’re reading about, you know, financial information or listen to a podcast, any podcast you always hear about private equity. So I think if now the listener has a little bit, you know, history of the what, what public and first private equity is how they’re both different, how they’re both out there, how they can get involved with it. Just sort of familiarize yourself with the topic. So okay, what do you want the listeners to walk away with this podcast?
Kevin McGarry 00:09:04 I think it’s great. We’re getting these questions. You know number one. So keep them coming. You know if you don’t understand something, call a professional. Ask for help. You know, when it comes to private equity, in certain cases, depending on your financial situation and goals, it could make sense. But you know, a 6040 portfolio historically has, you know, shown up and delivered over time.
Kevin McGarry 00:09:29 Yes.
Jim Donnelly 00:09:29 Weather the storm was out. So, Kev, that’s going to wrap up the Blue Money podcast for today. If anyone has any questions out there or any feedback or if they want a portfolio review anything, please reach out to Kevin I we’re here to listen to your questions. Help you help. We can. So be safe out there.
Kevin McGarry 00:09:44 Thank you for Listening. Be safe.
Announcer 00:09:47 Thanks for listening to Blue Money. To learn more about Jim and Kevin, or for a free financial assessment, visit Valley financial.com or click on the link in the podcast description or show shownotes. Until next time safe investing. This material is intended to be educational in nature and not as a recommendation for any particular strategy, approach, product, or concept for any particular advisor or client. These materials are not intended for any form of substitute or individualized investment advice. This discussion is general in nature and therefore not intended to recommend or endorse any asset, class, security or technical aspect of any security for the purpose of allowing a reader to use the approach on their own before participating in any investment program or making any investment.
Announcer 00:10:29 Clients, as well as all other readers, are encouraged to consult with their own professional advisers, including investment advisers and tax advisers. Valley financial can assist in determining a suitable investment approach for a given individual, which may or may not closely resemble the strategies outlined herein.