As federal and state lawmakers seek to allow more investors to put money into private markets, advisers are divided on whether that is a good thing.
The Securities and Exchange Commission, which regulates the consulting industry and the securities market, defines an accredited investor as a person with a net worth of more than $1 million and an annual income of more than $200,000 ($300,000 for married individuals). Under current law, investors must be accredited to put money into private equity, private hedge funds, unregistered securities and certain types of crowdfunding — whether or not they work with a financial advisor. It is estimatednearly 13.7 million qualified investment households, accounting for about 10.6% of the total number of households.
The House Financial Services Committee voted 28-21 on April 26 to pass legislation that would allow advisors holding certain securities licenses to invest client money in unregistered securities, regardless of the client’s net worth or income.
Meanwhile, Nevada lawmakers are advance legislation This would allow investors with annual income in excess of $100,000 to qualify as “accredited” investors who would also be able to take advantage of the private markets. The bill, which was approved by the Nevada Legislature on April 24 and is now before the Senate, would strictly apply to in-state investment opportunities and prohibit investors from giving up more than 10% of their net worth in any single transaction.
Proposals like this are often met with criticism like Public Investor Arbitration Lawyers Association, representing the interests of investors. Hue Berkerson, president of PIABA and investor advocate at McCarthy, Lebit, Crystal & Liffman in Cleveland, said private investments are inherently risky because they are not subject to the same regulatory scrutiny as stocks, bonds and other publicly traded securities markets.
This obscurity often prompts those interested in private investing to rely on the expertise of advisors.
“There’s a common theme among the rich,” Berkson said. “In general, the more educated you are, the more aware you are of the boundaries of your knowledge, the more likely you are to delegate decisions to others to fill in the gaps in your knowledge.”
Berkerson said he was concerned about federal bills — Formally known as the Expanded Capital Access Act – can walk out of the US House of Representatives. Still, its prospects in the Democratic-controlled Senate look bleak.
Whether advisors welcome the opportunity to lead more clients to private placements varies from person to person. Jarrod Sandra, owner of Chisholm Wealth Management in Crowley, Texas, said simply having a securities license isn’t as indicative of expertise as some lawmakers seem to think it is.
The federal bill would allow advisors with Series 7, Series 65 and Series 82 licenses to invest client money in the private market. Of the three, only the 82 series involved mainly private investment.
August 2020 SEC Rule Changes Holders of these three licenses are allowed to invest their own funds in the private market. Still, Sandra said he believed none of these had the expertise needed to take similar risks with client funds.
“People who take these tests are learning how to pass them,” Sandra said. “Then they come out on the other side and start talking to people in the real world and realize that what they’ve learned is hardly representative of what’s actually happening.”
Private deals in the U.S. have been on the rise According to a report by JP Morganthe annual amount invested in private equity will increase from $166 billion in 2019 to $268 billion in 2022.
The deals have also been attracting scrutiny from regulators. Financial Industry Regulatory Authority, the broker-dealer self-regulatory agency, Announcement on May 9 Reminds its members of the extra precautions required for private investments.It cites an SEC study that found that 69% of all new capital raised in the US in 2019, worth $2.7 trillion, came from unregistered offerings
Nicholas Daniel, founder of Columbus Wealth Management in Columbus, Ohio, said he works with many clients who already have private investments in their portfolios.
“These investments rarely outperform the open market, especially after fees and taxes,” Daniel said in an email. “Nearly every client I’ve worked with who owns these investments has expressed disappointment with performance, with their cash locked up for much longer than initially communicated.”
As for concerns that investors might be taken advantage of, some advisers are quick to point out that their fiduciary duties apply to private investments as much as they do to public investments. Thilan Kiridena, founder and chief executive of New York-based Capital Elements, said wealth managers have a responsibility to look out for their clients’ best interests, no matter what type of securities they recommend.
“Investment representatives are already subject to so many laws and regulations,” Kiridena said. “Regardless of the asset class, we always need to do proper due diligence.”
Tom Balcom, founder of 1650 Wealth Management in Lauderdale-by-the-Sea, Fla., said the big question is who should decide what is safe for investors? Is it the government or the investors themselves with the help of qualified advisors?
“Right now, it’s a bit like going to a restaurant and being told you can’t order anything on the left side of the menu,” Balcom said.
Jeff Saling, founder and executive director of business incubator StartupNV, expressed similar sentiments about Nevada’s bill on accredited investors. Nevada is not a state with a large affluent population and does not meet the SEC’s certification standards, he said. This makes it difficult for private startups to raise capital in the state.
Saling called on federal regulators to take better account of the fact that income and net worth levels vary widely across the U.S. and move away from uniform rules.
“If you’re in San Francisco, Los Angeles or New York, your highways are full of qualified investors,” Sarin said. “But they’re less than 3 percent of our population.”
Sandra said he was sympathetic to the argument that the government should not be telling investors what to do with their money. But he questioned whether clients had lost out by being steered away from private placements.
“Show me 30 years of public market underperformance,” Sandra said. “If you’re investing for the long term, you’re probably going to do well, unless you’re trying to time the market, you’re probably going to do poorly.”
