Are closed ended funds dead?
Is it just me or wtf is now the point of a closed ended fund unless you can generate substantial alpha? The illiquidity discount on closed ended vs. open ended is non existent.
In the future the only groups I see allocating to closed ended vehicles are large pensions and sovereign funds that need to dump money in platforms of scale or maybe niche family offices that can handle the illiquidity because they're expecting funds to generate consistent 20%+ net returns.
For everyone else, I really don't see the point in a closed ended vehicle.
Based on the most helpful WSO content, here's what you need to know about closed-end funds:
Liquidity: Closed-end funds offer liquidity during market hours as shares can be traded on the secondary market. This is different from open-end funds, which can only be bought or sold at the close at the Net Asset Value (NAV).
Share Pricing: The share pricing for closed-end funds is done in the secondary market at the prevailing market price. Shares often trade at significant discounts or premiums to NAV, which can be both an advantage and a disadvantage depending on market conditions.
Leverage: Most closed-end funds are levered, especially fixed income funds. This leverage can potentially enhance returns but also increases risk.
Investor Base: The future of closed-end funds may indeed see a shift in the investor base. Large pensions, sovereign funds, and niche family offices might continue to allocate to closed-end vehicles due to their ability to handle illiquidity and their expectation of high returns (20%+ net returns).
Market Trends: The illiquidity discount on closed-end funds compared to open-end funds is a significant factor. However, the ability to generate substantial alpha can justify the use of closed-end funds for certain investors.
In summary, while closed-end funds may not be suitable for all investors, they still hold value for those who can manage the illiquidity and are seeking potentially higher returns through leverage and market pricing dynamics.
Sources: Hedge funds vs. Mutual funds, Hedge funds vs. Mutual funds, Differences between Co-invest and Secondaries?, What Happens when a PE Fund Closes?, PE Investment Activity Amidst Spiraling Markets
As someone in the UHNW space focused on private investments I think open ended private vehicles will ultimately be a bomb that truly sets the industry back. These "funds" don't distribute any capital back and just make up a NAV that magically goes up 1% a month every year. These companies/properties are truly illiquid and placing them in a liquid wrapper for $5k minimum investors is such a bad idea for a million reasons. When an 08/09 event happens again I truly believe many private market focused firms will die purely because they locked the gate on these kind of funds while the underlying assets die, a truly horrible combo.
What I do think will happen and I've seen more and more of it is closed end funds that have much longer lives where LPs know going in this is likely a 15-20 year commitment. The reason for this is to combat the behavior of PE where they flip assets after 3 years, with little to no organic growth (shitty acquisitions + debt = return). This structure allows PE to truly invest in companies and not feel like they need to just make an IRR (i.e. 30% IRR after 2 years is like a 1.4x gross return which isn't actually making LPs any dollars). Funds I've seen in this space make carry on realized MOIC and have waterfalls on carry % based on return (i.e. 2x is 15% carry while 4x is 30%). This massively backloads carry but creates a much better alignment.
I'm seeing a lot of tender offer or interval funds not charge a performance fee, simply a management fee of like 1.75-2.5% and it's an aum accumulation game.
Interval funds are like half liquid assets (credit or public reits). Many are taking the approach you mention and just skew it up to 2.5% because it essentially bakes some carry in. Additionally, nearly all of these funds are just owning the same assets in drawdown/capital call type funds and just packaged in a different vehicle for small investors, i.e. there is nearly zero additional work being down outside of some operational work. For instance BXPE is literally just BCP, BXG, BXTO assets just pro rated for this fund, it's just an easy way to money grab dumb investors (advisors + retail investors are the dumbest out there).
Wouldn’t this eliminate the need for secondaries?
Not if the fund has redemptions greater than cash available.
A secondary buyer isn’t going to want to buy shares in an evergreen vehicle if their purchasing vehicle is a closed end fund.
The secondary market functions fairly well for quality GPs so I think closed end funds will remain alongside open end vehicles for a different class of investor.
GA has utilized a fund structure for decades that is effectively evergreen. I know of a few smaller firms that have a holding company model with an annual tender to provide liquidity. While I do think evergreen structures will continue to be used in PC, real estate, and infrastructure, for traditional buyouts the closed-end fund works well. The biggest issues with an evergreen structure are alignment and valuation policies. While CVs have muddied the waters a bit, for most portfolio companies, a 3rd party will buy in a competitive process and provide a true mark for fair value. In an evergreen structure, if the LPs think the marks are too high, they will all submit redemption requests and the manager will be forced to put up the gate (look at BX’s real estate fund). Now the market knows they are forced sellers of assets, which ultimately can destroy value for all LPs.
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