Wealthyist

In this episode of "Wealthyist,"  Liam McKinney, Wealth Strategist at Annex Wealth Management, featuring Brian Jacobson, the Chief Economist at Annex Wealth Management. The episode focuses on private equity, its appeal to wealthy investors, and its role in portfolio diversification.

The podcast begins by highlighting the growth of private equity, noting that in 2024, U.S. private equity deal value rose 19.3% from the previous year to $838.5 billion. Private equity is defined as investing in companies not traded on public exchanges, contrasting with public equity like stocks on the NYSE or NASDAQ. It encompasses a range of investments, from venture capital for startups to ownership stakes in established businesses, with the goal of creating value through transformation—either by improving efficiency, scaling operations, or preparing a company for sale to a strategic buyer.

The discussion explains how private equity differs from public markets, where companies often rely on retained earnings or debt for growth. Private equity provides capital to businesses, sometimes with investors taking a passive role and other times exerting control to drive change. Two common investment vehicles are discussed: "drawdown funds," where investors commit capital that’s deployed as opportunities arise, and "perpetual strategies," which offer a continuous pipeline of investments and more liquidity options (e.g., quarterly redemptions). Drawdown funds are riskier due to their smaller scope and longer lockup periods, while perpetual funds provide quicker capital deployment and potential exits.

Private equity appeals to wealthy investors due to its potential for higher returns and diversification. With fewer public companies (down from 8,000 in 2000 to 4,500 today) and an estimated 40,000 private firms suitable for investment, it offers a broader opportunity set. However, it comes with risks, notably illiquidity—investors must commit to long-term holdings (often around seven years)—and the use of leverage, which can amplify both gains and losses. Leverage can occur at the company level or through private credit used by funds to finance acquisitions, increasing the range of potential outcomes.

The podcast addresses societal impacts, noting that while private equity can get a bad reputation for cost-cutting (e.g., layoffs), many firms focus on long-term growth by integrating companies into broader ecosystems. Unlike public companies driven by quarterly earnings, private equity’s longer horizon allows for strategic projects that may not yield immediate results but offer significant value over time.

Risks in the private equity space include overpaying for deals, which could hurt returns if exits underperform, though concerns about a "bubble" have been overstated for years without materializing. The key for investors is due diligence—choosing reputable firms—and ensuring private equity fits their risk tolerance and liquidity needs. As a guideline, it might constitute 10% of a portfolio, though this varies by individual circumstances.

The episode concludes by emphasizing that private equity isn’t for everyone but can complement a diversified portfolio if approached thoughtfully. Annex Wealth Management acts as a fiduciary, aligning with clients’ interests rather than earning fees from private equity firms, and stresses the importance of understanding what you own, why, and at what cost.

This summary captures the essence of the discussion, blending educational insights with practical considerations for wealthy investors exploring private equity.