The iconic Drake hotel ballroom in Chicago was bustling with chatter during our recent Cohen Client Conference — not from the sounds of past famous heads of state and celebrities who have stayed there and left their mark — but with the excitement of asset managers, board members, attorneys and accountants alike. One of our signature panels focused on the increasing trend and convergence of the alternative investments industry into registered fund structures. Below offers insights from the panel on various market trends, structuring options, fee trends and considerations of the sizzling interval and tender offer fund market.
What are interval and tender offer funds, you may ask? In a nutshell, they are public funds that, because of their limited liquidity, can invest in predominantly private investments. Private investments include alternative and esoteric assets ranging from private loans and private companies, to CLOs and investments in hedge and private equity funds. Nearly 90% of existing interval funds focus on the private credit space, which excludes syndicated public debt. According to Morningstar, interval fund assets under management alone have grown almost 40% per year to $80 billion over the past decade. According to public data, there is currently a total of 270 existing interval and tender offer funds, with an additional 58 funds in SEC registration.
Following the success of those first to the market, many fund managers are launching or converting existing private funds to interval or tender offer funds primarily to gain access to capital of both institutional and retail investors. These funds are attractive to managers, as they are able to maintain the typical higher fee structure (including performance fees) necessary to actively manage a complex portfolio compared to low-cost ETFs or mutual funds. However, recently fees have come down rapidly on credit strategies given the increasing saturation in this market. Managers need to compete with lower fees and unique product offerings.
With alternative assets once limited to the few high net-worth-individuals and family offices, the industry is also seeing a growing trend of traditional asset managers taking a retail platform and selling alternative products to an ever-increasing appetite of everyday investors trying to find access to these strategies. Although there are many existing private credit funds, private equity and venture capital access continues to emerge. The market is seeing more niche strategies, with managers trying to meet portfolio demands from tactical investor allocations. According to our panelists, nearly 44% of the existing interval and tender offer fund markets are less than three years old! With the varying level of strategies managers are providing, we have yet to see the best performing funds.
Another exciting development for particularly retail investors is that Morningstar will soon begin rating interval funds. This will include a new rating system for semiliquid funds, including interval funds, using a Medalist rating methodology — evaluating the funds based on people, process, performance and price. These ratings will particularly help retail investors understand the potential benefits, costs and risks of these funds.
Structurally, there is a trend toward interval funds versus tender offer. Historically, managers typically seeded new funds with cash, but recently industry participants are seeing more seeding with a portfolio of investments. Building a robust portfolio takes time, so the trend has been to establish portfolios through private fund structures, e.g., hedge or private equity funds, and later convert them to an interval or tender offer fund structure. Also of utmost importance are the tax considerations to ensure portfolios meet regulated investment company (RIC) diversification requirements under Subchapter M.
Managers, particularly emerging managers, are spending quite a bit of effort lining up seed investors and assessing distribution channels. Interval and tender offer funds able to reach national wire houses can grow very quickly. Often the best launch process to maximize investor allocations is to focus on preexisting channels, leveraging those relationships, educating on structure and then growing the funds.
From a regulatory landscape, we have yet to see how the new administration and recently appointed SEC chair will continue policy trends with regard to these funds. We anticipate we may see some changes this summer, if the recent overturn of the private funds rule is any indication.
Read “U.S. Court Unexpectedly Overturns Entire SEC Private Fund Rule: Now What?”
There are many legal, valuation, audit and tax considerations when launching these funds, so speak with all your service providers early!
Considering launching a new interval or tender offer fund? Submit our interval fund inquiry form to tell us more about it to see how we can help.
Contact Syed Farooq or a member of your service team to discuss this topic further.
Thank you to our panelists for participating in this session with us: Nick Darsch, Managing Director, Ultimus Fund Solutions; Josh Deringer, Partner, Faegre Drinker Biddle & Reath LLP; Ben McCulloch, Managing Director & General Counsel, XA Investments; Lori Novak, Partner, Cohen & Co.
In this blog Cohen & Co is not rendering legal, accounting, investment, tax or other professional advice. Rather, the information contained in this blog is for general informational purposes only. Any decisions or actions based on the general information contained in this blog should be made or taken only after a detailed review of the specific facts, circumstances and current law with your professional advisers.