Private equity is capital made available to private companies or investors. The funds raised might be used to develop new products and technologies, expand working capital, make acquisitions, or strengthen a company's balance sheet. Unless you are willing to put up quite a bit of cash, your choices in investing in the high-stakes world of private equity are minimal.
Why Invest in Private Equity?
Private equity investments appeal to both institutional investors and rich individuals. This includes substantial university endowments, pension funds, and family offices. Their funds support high-risk, early-stage businesses that have a significant economic impact.
The funds are often invested in startups in fields like telecommunications, software, hardware, healthcare, and biotechnology that are expected to develop significantly. Private equity firms aim to increase the value and profitability of the businesses they acquire. Consider bringing in a new management team, acquiring similar firms, reducing expenses, or spinning off failing elements of the company.
Some of the firms listed below have received private equity capital in the past.
- A & W Restaurants
- Cisco Systems
- Intel Network Solutions
- FedEx
Without private equity funding, these companies may not have achieved their current success.
Minimum investment requirement.
Private equity investment is not accessible to the typical investor. Private equity firms often seek investors ready to contribute up to $25 million. Although some businesses have reduced their minimums to $250,000, this remains out of reach for the majority of consumers.
Fund of Funds.
A fund of funds owns shares in many private partnerships that invest in private equity. It enables businesses to improve cost-effectiveness and minimize their minimal investment requirements. A fund of funds may provide more diversity by investing in a wide range of firms from various stages of venture capital and industrial sectors. A fund of funds' scale and diversification may reduce risk compared to individual private equity investments.
The SEC's regulations on illiquid securities limit mutual funds' ability to acquire private equity directly. The SEC's mutual fund criteria allow for a 15% allocation to illiquid assets.1Mutual funds sometimes have their own regulations that limit investments in illiquid equities and debt products. Because of this, mutual funds that invest in private equity are often classified as fund of funds.
The drawback is that extra fees are paid to the fund or fund management. Minimum contributions vary from $100,000 to $250,000, and managers may limit participation to those with a net worth of $1.5 million to $5 million.
Private Equity ETF
You may buy shares of an exchange-traded fund (ETF) that invests in private equities based on a publicly listed index. Because you are purchasing individual shares on the stock market, you do not need to worry about minimum investment requirements.
An ETF, similar to a fund of funds, incurs additional management fees that may not be present in direct private equity investments. Brokerage fees may apply when buying or selling shares, depending on the brokerage.
Special Purpose Acquisition Companies (SPACs)
Investing in publicly listed shell businesses, which make private equity investments in cheap companies, may be dangerous.The SPAC may only invest in a single firm, limiting its diversification potential. They may also be under pressure to reach an investment deadline specified in their IPO statement. This may lead to impulsive investing decisions.
The Bottom Line
There are various dangers associated with private equity investments. Private-equity investments for smaller investors may incur greater costs compared to traditional investments like mutual funds. This may diminish results. As private equity investing becomes more accessible, organizations may struggle to find suitable investment opportunities.