Episode 409: Investment Banker - What Private Equity Doesn't Tell You

Introduction

0:00This is the Rational Reminder Podcast, a weekly reality check on sensible investing and financial decision-making from two Canadians. We're hosted by me, Benjamin Felix, Chief Investment Officer, and Dan Bortolotti, Portfolio Manager at PWL Capital. Good to be back with another guest. Yeah. Episode 409. And today we're joined by Jeff Hook, who is a former investment banking, private debt and private equity executive in both New York and Washington DC. He's been a senior

0:32lecturer at Johns Hopkins University, and he's also written five books and a bunch of academic papers. His academic papers are largely on the topics that we talk about today, which is private markets, private equity, and private debt. He's also got a book, his latest book, I believe it's a 2021 book, The Myth of Private Equity. So you can start to get a feel for the direction we're taking this conversation. His latest published academic paper talks about the performance shortfalls in private credit, which is something that I think was a very important paper because private credit has

1:06been being pushed to the industry and more recently to retail investors very, very hard based on its superior performance and a particular superior risk-adjusted returns. But in Jeff's research on this, he finds something quite different. It's also interesting, this was discussed in the Rational Reminder community, which is why I bring it up. His paper did have a rebuttal from Cliff Water, which is one of the large private credit managers. Our friend Larry Swedro referenced that rebuttal when we were talking about Jeff's paper. So Jeff has some comments about their comments,

1:40I guess, and about their critique in general. This conversation is about private markets, private equity, private credit, private real estate, how they've performed, why people invest in them, and Jeff's thoughts as a seasoned professional and researcher in this space on how they fit into portfolios. Yeah, I think what really jumped out, you know, in the conversation is as we talk about, sometimes it's difficult to measure the performance of these investments because someone who's used to dealing with public equities, measuring the returns on US stocks,

2:11Canadian stocks. It's all very straightforward because there may be different index methodologies, but they're all very, very highly correlated. And this stuff is easy to evaluate. It's a lot different when you're talking about how does private equity compare with public? Well, which private equity? How do you measure it? How reliable are those metrics? And obviously, his research is very rigorous. He goes into the methodology about how to do it. I think the other thing that really jumps out is just how much the psychology plays into this. And we talk about

2:45it a bit in the interview, which is, I think we've all encountered it, right? As people who try to manage investments in a very straightforward, transparent way, it's not sexy. It's nothing really to brag about. People are often looking for something just a little spicier, a little bit more exotic. And I think this plays into those impulses. I love how Jeff is able to speak to this. So he was hired as a consultant to do a report for the state of Maryland and their pension system. And that's

3:17kind of how he got into this space of researching private market returns. I had read that report many years ago, and it's one of the things that helped me start thinking about private markets. He just continued doing research in this space after that initial paper got some traction. I've got them all here. Three published, I think, papers in journals, and then a few other papers that I believe are unpublished research reports that he's done either pro bono or as a consultant. But he approaches this topic as someone who has extensive practical experience and has also done research in the space.

3:50So he brings a lot of just nice perspectives, and he really doesn't mince his words. It's fun to talk to him. Yeah. And yet he's very fair-minded. I think people will find when they listen, he's certainly not out to do a hatchet job on anything, but it's a quite a methodical approach and a very fair one, I think. And people can make their own conclusions.

Private Markets Discussion

4:07All right. Should we go to our episode with Jeff Hook? Let's get to it.

4:15Jeff Hook, welcome to the Rational Reminder Podcast. Pleasure to be here. Thanks for inviting me. Very excited to be talking to you. Why do you think institutions for a while now, and more recently, retail investors, have been so willing to allocate to alternative investments like private equity and private credit? Well, first, let's tell your listeners exactly what an institutional investor is. It's a giant pool of money that's supposedly managed in a professional way with very educated people, finance experts, investment experts running the pool of capital and selecting investments to buy

4:52and sell. So, you know, a couple of examples of that would be the Canadian pension plan of Harvard University, the New York state pension plan. These are huge pools of capital representing hundreds of billions of dollars. And they're designed essentially in the case of pension plans to provide annual payments to people that retire from the government. University endowments, on the other hand, the money is often used to subsidize the university's operations. To answer your question, after we just kind of get through that intro, the retail investors, of course, are average people,

5:28you know, like myself that are saving money for retirement or to buy a house or what have you. And they would be generally less sophisticated than some Harvard MBA or Toronto Business School MBA that studied finance and worked on Wall Street type jobs for years. So institutionally, these investors like alternatives such as private equity or hedge funds or private real estate, not really because they provide higher returns than their public counterparts. Each of these special investments

6:03have a publicly traded counterpart. It's not hard to find. But, you know, from the institutional point of view, the investment staff needs to justify their jobs. Because if they were to go to the board of trustees of their particular fund and say, look, all we need to do is index the fund and we'll make more money than going into private real estate or private equity. The natural inclination of the trustees would be, well, if we're just going to index it, you know, the investment selected by a computer, what do I need

6:33you for? Why am I paying you $700,000 a year to pick and choose investments when a computer will make me more money? So from a career path, they have to invest in these private alternatives because it makes them look smarter, it makes the portfolio look more complex, and therefore the trustees have to hire a bunch of them at high salaries to administer everything. Even though the evidence shows that these complicated portfolios don't beat a simple index, 60-40 index, which is 60% stocks and 40%

7:09bonds, which has been the standard for decades, they don't beat the index. That's basically career preservation for the investment staff. Now on the retail level, they're not as sophisticated as the professional staff members, but there's been a lot of hype surrounding the alternative industry for two or three decades. And, you know, it's a huge PR promotional program funded by millions of dollars. Retail just wants to get in on the hype. That makes sense. The institutional story about the trustees

Institutional Investors

7:40and the staff needing to justify their salaries, that makes sense. But even volunteer investment committees who maybe don't have the same conflicts of interest, why do you think they're particularly susceptible to the alternative story of, hey, we can get you higher returns with less risk? Well, you got to remember that alternatives did kind of beat the average, you know, the public comparables by a few percentage points in the first 20 years of their existence. That's an indisputable fact. In the last 15 or 20 years, the competition has been so intense for deals that the returns

8:13naturally are going to fall because people are paying higher prices for the real estate or the companies that are going into these private funds. The hangover from the good returns has sort of been still there after 10 or 15 years. I'm a little perplexed why that is. You know, there's only a few of us that really are contrarian in this regard. And, you know, a few professors here and there, a couple of people in the industry. From the trustees' point of view, part of it's just plain ignorance. A lot of them don't have a lot of financial sophistication. So they're relying on the staff for almost all the

8:47information. Secondly, and this has been postulated by people I know in the media who are reluctant to criticize us, but they say, if you're a trustee of one of these big university endowments or some state pension plan, you go to your golf club. What do you want to say? You know, the computer just did this today. It shifted from 60% stocks to 58% stocks. You want to say that? That sounds boring. Or do you want to say, guess what? We went out to lunch with Goldman Sachs today, about a $200 million

9:18fund. That makes you sound like a big shot. So it's kind of ego and ignorance on the trustee's part. As I said, for the staff, it's more career preservation. It's interesting because I've had the same kinds of experiences. You know, you'll meet somebody on vacation or at a party or something. They ask what you do for a living. You say, I'm an investment advisor. And they start asking you, what are you buying these days? What are these stories? And I say like, index ETFs, maybe some GICs. Boy, that shuts the conversation down pretty quickly.

9:49They don't want to hear it. People want to hear about these huge successes. And yeah, there are some huge successes in these various alternatives, but there's also a lot of failure. So if you spread out all the successes against all the failures and do all the math, which I've done on multiple occasions, you'll find out that the alternatives generally underperform their public benchmarks. And so there are a few that are home runs, as we say here in America, home runs. And those are the ones that everybody wants to talk about. When you read, pick up the

10:22Wall Street Journal or Financial Times, there's a lot less discussion of the many bankruptcies. So if you are speaking to an investment committee, how do you communicate the downsides of these alternatives? What resonates with them? Nothing really. I mean, they don't want to hear it. I've testified in a couple of investment committees because I've invited as a contrarian. There's a couple of people in the trustee committee that think I should be heard. But most of the time, I'm not invited to any of these things. I'm not invited to any investment conferences or any of that because I would be against these huge fees that are

10:57being paid to Wall Street type firms. I just think it's a waste of money. So in the one or two instances where I've gotten up there, I've sat in front of a legislative committee or the pension fund trustees, I give them my spiel and I tell them, look, you're wasting a lot of money and returns aren't so good. You ought to just index the whole thing and tell the staff to take an extended paid vacation. They just don't believe me. So they kind of look at you blank because they don't have much sophistication to begin with, most of them. And then immediately the staff gets up there and testifies

11:29and just calls you a liar, totally contradicts you. And so the staffs of these institutions, they're in touch with the trustees, you know, on a weekly or monthly basis pushing their propaganda. I might show up once every two or three years. They might see a quote by me in the newspapers or something. So you don't get an audience. But if you did have an audience and for the benefit of our audience, how do you communicate the downsides of alternative investments? Well, I mean, look, I just did this letter for the Department of Labor comment. And, you know,

12:00just let's take the biggest pension plan in the United States. Okay. For all your listeners, the biggest pension plan in the United States is the California state pension plan. And the nickname for it is CalPERS. CalPERS is the bell cow. It's like Harvard. Everybody follows what CalPERS does. No one really wants to be original. They just follow what CalPERS does. CalPERS is knee deep in these alternatives. It's got about 30 or 35% of its portfolio and private equity, hedge funds,

12:30real estate, et cetera. If you look at their performance over the last 10 years, it's 8.3% over 10 years. That sounds pretty good, 8.3% a year. But if you look at the largest blended Vanguard fund, which is what you guys invest in, index funds, it's a 60-40 index fund, which is a popular gold standard, it beats California 9.5% to 8.3%. So that's a 1.2% difference over 10 years.

13:03And you might say, ah, big deal. It's only 1.2%. But when you compound that over 10 years, you've got 15% more money by investing an index fund than CalPERS ever does. The trustees totally ignore these facts, assuming they know them at all. What role do you think investment consultants

Investment Consultants

13:23play in the proliferation of these investments? So investment consultants for your listeners are these mega firms that might have hundreds of employees. And their main job is to supposedly give totally objective, independent investment advice to these big state pension plans and sometimes to the endowments. Now, as I've said earlier, these plans and endowments, they have their own professional staff, but particularly on the state pension side, and probably in Canada as well, they're a little

13:55stretched. So they use these investment consultants to help them pick and choose private equity funds or hedge funds or real estate funds. Supposedly, the investment consultants are kicking the tires of all these funds, making sure that they're good investments. And then they're studying the asset allocation of the portfolio, how much stocks or bonds they should buy. And so they get paid millions of dollars by these various funds that do this kind of work. So that's their official job. If you read an

14:26annual report, their unofficial job is to provide air cover for the staff. So if the staff screws up, it's like California, where you're 1.3% below a simple index fund that pays virtually no fees at all, you can say, well, it's not my fault. Cambridge or Callen Associates recommended that fund or a bunch of funds and the asset allocation. So they can kind of walk away and say they're blameless. So the institutional consultants for these big funds are called gatekeepers. So they have the keys to the

15:03kingdom. And so all the investment funds walk into their door and prostrate themselves and say, please recommend us to CalPERS or the Canadian Pension Board. We want to get in there and get the fees. Now, on the retail level, which is something your firm probably does quite a bit of, your representatives, the clients would look to your advisors as sort of the investment consultant, and you would help them pick and choose funds, or I guess in your case, ETFs, since that's a lot of

15:36what you buy, which have a lot lower fees, but they would look to that kind of guidance on a retail level.

Alternative Investments

15:42So Jeff, you spoke specifically about CalPERS as an example, but more generally, how would you assess how allocations to alternative investments have generally worked out for institutions? Is it an overall negative picture? Yeah, it's negative because like I said, they're all following the example of Harvard and CalPERS. That's the example or the guide for all these funds, because again, something screws up with their fund. They could say, well, it's not my fault. We just copied Harvard and CalPERS. I'm totally blameless.

16:14Plus the investment consultant said I should do that. That's kind of the arrangement. Do you have a sense of how much public pension plans, for example, have lost due to their alternative investment allocations? I've been looking at this for free. I don't get paid for doing this. I did a pro bono for a think tank that wanted to look at the Maryland pension plan. I was surprised to learn how it underperformed the 60-40 index and was also in the bottom 10% of its peer group. So it was a total disaster.

16:44They asked me to take a look at it. I didn't know a whole lot about investment management, but I picked it up pretty quick. That study got some waves. And then we were asked to look at it on a national basis. We hired a young person to help out. We looked at all the states. We found out 90% of the state funds underperformed the simple index as well. It was pretty surprising that that happened. And then when I got into academia, after my investment banking career, I was in Johns Hopkins University for six or seven years as an adjunct professor. Me and another professor

17:19looked at it in a more scientific manner. Is that the grand experiment paper? Is that the one you're talking about? Yes. Yes. We've had a couple of variations on the same theme where we looked at how do big private equity funds, for example, do versus small private equity funds. You know, it's about the same. Buying a big brand name fund doesn't get you any further than buying a fund you never heard of. I thought that was kind of interesting. In those papers, you're finding that these institutions and these funds are underperforming a public equity index? Yeah. I'm doing a presentation to

17:55a big wealth management company in a few weeks. And I looked up, you know, the state street, McKinsey, Bain, these are outside consultants and ones that, you know, keeps a private equity index.

Private Equity Research

18:10If you look over the last 10 years, private equities underperformed the stock market by, I don't know, maybe one or one and a half percent a year. So they were doing pretty well the first 15, 20 years of their existence, but now the performance is flattened out if not going south in a significant way. So Jeff, you talked about how many institutional investors look to big plans like CalPERS, Harvard, et cetera, and copy what they do. It's interesting because the late David Swenson,

18:42who's sort of known as one of the most popular institutional money managers of the last several decades, wrote a book called Unconventional Success, which was kind of playing on this idea, right? In that institutions would rather fail conventionally than succeed unconventionally. They didn't want to be the ones making independent decisions with institutional money. He gained a lot of popularity and had tremendous success during his career. But it does kind of raise the question,

19:13why have institutions struggled so hard to replicate the success that he had with the Yale endowment? He was one of the first big institutional investors to get in early. A couple other big institutions that got in early were state of Washington, the state of Portland, but he was one of the ones that got in early. He was near the big media center, New York City. Much like other early investors in this sector, if there was 15 or 20 years, he was doing better than, say, a Vanguard

19:47balanced fund. Like I said earlier, that California doesn't be. But as time went on, his returns started flattening out. The last 10 years of his reign at Yale, he basically matched the Vanguard fund. And I'm not critiquing his investment style or his book or anything. I'm just stating a simple fact. He couldn't overcome and neither can these funds. They simply had too much competition after the mid to late

20:182000s. And so everybody's looking for the same kind of deals and the prices go up. And so the returns falter. And even the private equity funds and the private real estate funds have cut their fees, but simply not enough to make up the difference. And then you could argue that fees go down, allocations just go up to push asset prices up to where they would need to be for the net benefit to be zero. That's probably true. That's what you'd expect in an efficient market for manager skill, I think. Yeah, of course, an efficient market, the private equity industry wouldn't exist in its current form.

20:51It would be much, much smaller because so many of the firms are not performing well. The crazy part about it, though, is that they do perform really well gross of fees. I would agree with that assessment. Net of fees, if you read independent literature, there aren't that much out there. It's critical for obvious reasons. 25% of them will beat the market by 2% or 3% net of fees. That's the top quartile, as they say in the business. Whereas the bottom quartile is a disaster. But when you add them all together and combine them,

21:24you get a mixture of returns that are somewhat below the blended Vanguard funds. That dispersion is tough too, right? It's tough to pick. And if you pick the wrong one, it's such a big deal. Yeah. So the dispersion, for the sake of your listeners, is the top 25% pick a number might be 4% annually over the market, which means they're hitting the cover off the ball. Whereas the bottom 25% might only return 75% of your money. So you're off 3% or 4% a year. So that is not something you see in active managers, for example, in the public markets. Of course, the index funds are

21:59very little dispersion. You just don't see that. So it's a wild swing. And you said, well, it's hard to pick them. I don't know what the scientific basis for is picking them anyway. So if you read, let's say you're a trustee, or let's say you're a very wealthy person looking at one of the marketing documents. So these private equity or private real estate funds or hedge funds, infrastructure funds, whatever, you'll see that, let's say fund six is done pretty well. It's beaten the market.

22:32Fund five has beaten the market. So if they're marketing fund six, the sales pitch is, well, five and four beat the market. So number six should beat the market. And if you read the investment consultants recommendations, they will say something like the saying, they'll say, well, we did this thorough analysis of number four, number five, and they beat the market because the private equity fund had this strategy and they go into their tactics and so on. But scientifically,

23:04it's been proven that if four or five do well, there's absolutely no guarantee that six will do well. It's a totally random process, which surprised me. So four and five did well. This chances of six doing well are probably 25%. It's just unbelievable. It's like throwing darts at a dark one. The one argument that I have heard that I think is interesting is that there's no persistence in the top three quartiles, like you said, but the worst funds tend to continue being bad.

Private Credit Discussion

23:35Continue being bad. No one should buy them, right? So how do they stay in existence? One of the last things I did while I was working with Hopkins was, and I still teach a course there, but I looked at the top 25 LBO fund families. And anybody can look up this study, just punch my name into the computer and you'll see top 25 LBO family funds. And you'll see that even the lousiest of the top 25, you'd think they'd go out of business. No, they can still raise billions for new funds.

24:09That's quite astounding, which would really tend to contradict your theory of the market being efficient. I do agree. Based on how things have gone, it doesn't seem sensible that these things are getting so much capital. So when I was working on a legal case, you know, with retirees that were suing a pension plan for lousy results, I looked at the recommendations of investment consultants, these big name firms that are supposedly the gatekeepers and the gatekeepers, you know, they wrote these long reports, bunch of

24:42charts and numbers saying, well, you know, basically this fund is going to do well because funds five and forwarded well. But nowhere did they mention that there've been a couple of objectives, independent studies that show, as you say, there's no persistence. So our recommendation is essentially useless. Persistence, by the way, for your audience is the ability of a PE fund or a hedge fund to duplicate past results. That's tough. The same problem has been found in active management

25:15management of stock managers that they might beat the market for three or four years, and then they tend to go back to the norm, and then they might lose for a couple of years. And that's unfortunate. We've seen this kind of story arc where these things, as you talk about in one of your papers, they really became popular around the financial crisis. And that's when institutions started putting a lot of capital into these to try and recover from the drawdowns and avoid future drawdowns. And it's been a while now that they've, as you have documented in some of your research,

25:46been underperforming public equities, but now it's come to retail. How do you think these types of investments are going to work out for retail investors? Well, let's start off with your basic premise, and then we'll move on to real estate investors. So as you accurately point out, the market in the United States dropped, I don't know, 35% in 2009, as I recall, or someplace close to that. There was a lot of hand-wringing, as you point out, at pension plans and universities to say, oh, we can never do this again. And private equity came to

26:17the rescue, so to speak, and said, we're investing in stocks just like the stock market, except our stocks are privately traded. If you look at our results 2008, 2009, they didn't drop 30%. They only dropped 10% or 12% or 20%. So they dropped a lot less, and they used that argument to say that they were safer than a public stock portfolio. The crazy thing about that is they're investing in the same kinds of companies as public stocks, but they can assign values to their private companies based on

26:54what they think it's worth or what they want people to think it's worth. So it's a very subjective exercise that they're going to use in their favor. So in those two-year periods when things look pretty dark, they use their subjective analysis of values to make themselves look more smooth as opposed to the market going up and down. So that's been one of their sales pitches for the last 15 years. It's obviously been quite effective because a lot of people keep repeating it. As far as retail goes,

27:24I think private alternatives are going to be a disaster because not only are the returns a little shaky, as I've mentioned, but the fees are going to be higher at the retail level because not only does the retail person have to pay the fund fees itself, they then have to pay the distributor or wealth manager. I'm not sure how you guys would call it, but there'd be a distribution fee and maybe a fee going to the absolute individual who's advising it. So, you know, the fee structure might be another

27:56one or 2% a year, you know, on top of the two or 3% of the private equity funds already charging. So if you're down 5% a year in fees, it's a little hard to see how you're going to keep up with the stock market or the real estate market or the private credit market for that reason.

Methodology Issues

28:12So let's talk a little bit about methodology because maybe you can talk about why it's so difficult to answer what seems like a simple question, which is whether in fact private equity has outperformed or underperformed public equity. Well, these numbers are available. You can look them up on the internet. And as I pointed out, Bain Capital came out recently. McKinsey Capital came out recently. State Street came out recently with their 10-year charts. That means you've got to go to the internet. You've got to look at two or three McKinsey reports to find out which one. Then you have to scroll through it and find the

28:46information on page 52 or something like that. So that's a little bit of a problem. And that only shows the internal rate of return, which can be manipulated by the private equity funds. McKinsey just takes these numbers off a database. Same with Bain and the others. And so the numbers or even these numbers that show a relatively poor return relative to the public benchmarks assume that the unsold values are accurate. So one, there's trouble getting information.

29:19If you want to get more detailed information, like how does the particular fund compare to a public benchmark, that's tougher. You've got to subscribe to a private alternative database that keeps that kind of information. And that's going to cost you $25,000 a year. In my travels, I've learned that neither the New York Times or the Wall Street Journal Financial Times subscribes to such a database. They think it's too expensive. I wouldn't have enough experience with the state pension plans to know if

29:51they subscribe to that database. They might. The Hopkins Endowment does subscribe to it, but the Hopkins Endowment's underperformed to 60-40. So I'm not sure that $25,000 has done a worthwhile expenditure. It's going to be bad for people that want to get that kind of information. It's just going to be hard to lay your hands on it and then to analyze it. Asking a retail person to do that is really a stretch, in my opinion. The other thing is that the media has been pumping up private equity, hedge funds, et cetera, private credit, claiming these guys are all geniuses.

30:26And they've been part of the hype. They've been enablers. They're getting a little more skeptical the last two years. But with all the hype, it's very hard for someone to get through it. Lastly, the private equity industry or real estate industry or what have you, they've got millions on public relations campaigns. You can see their advertising on TV now. You guys probably get emails asking you to buy private equity funds. Of course, they have conferences and stuff like that. So it's an advertising machine.

30:57They've also got a pretty powerful lobby here in Washington. Maybe they have the same thing in Ottawa that tries to keep everything super secret. So it's very hard to get through the clutter, the fog of information to get the real truth. I think it's even harder than you made it sound. Like you mentioned the reports from Bain and I think McKinsey where they show underperformance, but then there's, I won't name them, but there's a Canadian firm that sells private equity to retail investors and they show historical performance going back to 2001 where private equity is beating

31:32public equity by almost 3% a year, net of fees apparently. There is a paper like in the Journal of Private Markets, 2025 paper that says that buyout funds have outperformed net of fees by 3.8% after adjusting for a whole bunch of factors. But it's such a messy thing to benchmark and calculate the performance of that you can have Ludovic Falapu on one hand saying there's been no outperformance. And then you can have this other paper saying it's been almost 4%. And the data are just messy enough where I think you can choose how you want to interpret and report the results.

32:04I agree with you that you can manipulate the results to get the answer you wish. It also depends on what year you pick as the start. So if you pick a bottom fishery year, like 2001, where the stock market was beat up, then private equity is picking things up cheap. You know, you might actually beat the market. But if you go 20 years back, I don't think it can be manipulated that well. Now, you know, a lot of times I've seen some of the big firms say on their websites, they beat this and that. But there's often lots of footnotes, as you point out, no one's really

32:38checking the marketing claims to see if they're true. There's no SEC regulation in this country for private assets, you know, whatever claims they make. Even if they sound too good to be true, the government doesn't analyze their marketing and say it's exaggerated. I've sent them a few. I'm not an SEC lobbyist. I'm not a lawyer for some citizens group. If you send something to the SEC as an individual pointing out that one of the big LBO firms is exaggerating returns or just saying

33:10bad information, they just tell you to kiss off. All they want to talk to are big firms and big law firms. That's kind of their purview. It's just tough. If the government's not checking on any of this stuff, how's an enlightened individual going to get through? It's difficult.

Unrealized Investments

33:28Our listeners are somewhat familiar with the problems with IRR. We had Ludovic Falipo on this podcast a while ago and talked about that quite a bit. Can you talk about what performance measures are better for measuring private fund performance that you've used in some of your research? Well, I think the most accurate one, the most relevant one is something called the public market equivalent, which is the slang in the industry. It's the PME, public market equivalent. So the idea behind that one, which is invented by a couple of professors like 10 years ago, was,

34:02okay, we're going to look at the cash flow of this private equity fund year to year. When do they make the investments? When did they cash out? Because these funds last like 12, 15 years now. And they would assume there was a hypothetical index fund investing at the same exact time, the exact same amounts. And then as time went on, when the fund six, seven, eight, nine, 10 years later started selling, this hypothetical pretend index fund would then sell their stocks in the same manner. And then they could

34:35match it up. The public market index fund is designed so if the statistic is one, that means the private equity fund beat the public market or match the public market. If anything above one, they beat the public market. Anything south of one means the fund did not beat the public market. So I think that's the most accurate one. The problem with that is the private equity firms in their advertising and marketing documents never mentioned that because if they did, people would see how lousy they are.

35:09The PME is only provided by these big data services. If you want to find out the PME of all the private equity funds that you've heard of, Goldman Sachs, Carlisle, all those guys, you got to pay $25,000 to get the number calculated. That's pretty expensive. I mean, a firm like yours, I guess you could buy it and you could distribute the results to your clients. Of course, it might be prohibited under the terms of the contracts with, I think, Prequent or PitchBook data services. But you

35:40would then have that kind of knowledge and you could then pick and choose, even though, as you said earlier, it's tough to pick and choose because there's very little persistence in the business. But that would give you some idea of who's doing well. So the IRR, as you said, could be manipulated. The other one, which is popular, is called the TVPI, which is total value in versus paid out. That one's harder to manipulate as well. And that one is widely distributed. And that means if over time, some

36:12institution puts $100 million into a fund, you know, after, say, 12 years, the $100 million is one. You put in $100 million. And then the common TVPI and private equity would be 1.5. All the funds would average to 1.5 over that 10 or 12-year life. So you put in $100 million and you cumulatively got back $150. So $150 divided by one is $1.5. You might say, well, that's pretty good. I'm making 150%. You know, I'm making 50% over what I put in. But that doesn't factor in the time

36:48value of money. The math is pretty complicated to do that. But you might only have a return of 7-8% a year if you do all the math, which is not as great as they advertise. Talk a little bit about how survivorship bias affects private market performance data. I mean, this is an issue in most kinds of performance reporting in the investment industry. How does it factor into this methodology? Survivorship bias is, as your listeners might have already figured out, a lot of the funds

37:19that fail are, you know, let's say they don't fail, they don't go bankrupt, but you know, they have returns that are a lot less than desirable. You know, they simply closed out. They sort of disappear into the wilderness, or into the fog or to space. And you never hear about it again. So they stop filing their returns. And we kind of never hear about it. They might have been in the statistics early on, but when they stopped filing, they disappear from the statistics. So you sort of have a lot of the losers fade off into the sunset. And the winners

37:51are the ones left standing and the ones that go into the databases. So there'd be a somewhat higher rate of return reported by the databases than would be totally accurate for the industry. The other thing I should point out, which is not directly connected to survivorship bias, is the fact that even the biggest and best data service, which I consider frequent in private equity, only covers about 60% of the universe. The 40% don't report the frequent. Reporting the frequent

38:23is voluntary. They don't report the frequent. So you might say, well, where's frequent get the data for funds that don't report voluntarily? Under the Freedom of Information Act, they would try to get the data from state pension plans that would tell them what the cash flows in and out of these areas non-reporting funds are. But you know, even that has got holes in it. You've got a lot of information that's simply not there as you would have in the public market, which is just the way the private equity industry likes it. They don't want any accountability. They don't want anybody to really know that their funds aren't doing so hot. It's a great business for them. It's one of the

38:58best businesses ever designed. It's the same with private credit and private real estate. The non-reporting, I know it would be hard to study by the nature of the fact that they're non-reporting. Do we have any idea what the performance of the non-reporting funds looks like relative to the reporting funds? Like, are all these funds that don't report doing worse? It's hard to say. I mean, a cynic might say, well, if they're not reporting, they must have a reason for it. That reason would be we're not doing so well. When I've asked people in the business about it, I say, why don't they report to Frequent or PitchBook? They say, well,

39:29our fund's doing so well, we don't have to report. We don't have to have Frequent or PitchBook tell everybody how well we're doing. We want to keep it an absolute secret, Jeff. It doesn't make any sense to me. Why would you do that? I mean, if you're doing really well, you want everybody to know. Interesting though, that's what they say, because it's plausible, I guess. It is a relatively tight market. It's not like they can go and find investments if they triple their fund or whatever. It's plausible. If you've done doing better than everybody else, I mean, how do you make more money? You go out and raise a couple more funds. And if you've got a good track record, you should be able to do that.

40:03So the logic for keeping it a secret would seem odd to me. Yeah, it's tricky. I hope one day a study comes out that somehow manages to get a bunch of non-reporting fund data and tells us what it looks like. You mentioned private credit, which we've not talked much about yet. How has it performed relative to risk-matched publicly traded securities? Private credit is the next crazy thing. It's grown by leaps and bounds. Since 2015, it's probably tripled or quadrupled in size. In part, the private equity returns, as I've mentioned,

40:39have flattened out. So Wall Street had to think of another... What do they call Wall Street in Toronto? I forgot because I've been up there a few times. Bay Street. Bay Street. Okay. So Bay Street, they got to think of another product to sell, even though private equity is still selling. It's not quite selling as much. And so private credit is the next hot thing. And private credit, even though it's supposed to be exotic, super secret, doing all kinds of great returns, the basic idea is that 80% of private credit is loaning to leverage buyouts. So private credit is essentially privately held junk bonds

41:16to various leverage buyouts. Most of them are kind of small deals, 200, 300 million, but some of them are really large. You can see some $10 billion deals that have been financed mainly by private credit. And so they form syndicates, almost like you would have in a big bank syndicated loan. So private credit is growing because they're really replacing the banks in a lot of these smaller deals. They run around with the same claim that private equity does, that they beat their, I hate that word, risk-adjusted benchmarks. You're never sure what it means. But

41:50the professor from UC Irvine and I, who did this study recently, which I know you two know about, which was an independent study, I didn't get paid for it, I'm not getting paid to sit here, like a lot of people in the business, you know, they get paid to show up on podcasts and doing this for nothing, is that the study pointed out, which is the first study of its kind, you'd say, well, if $2 trillion has been invested in private credit, has anybody analyzed whether it beats a benchmark that's publicly traded, that's totally objective? No one ever did. I was surprised. No

42:22one ever did it. You know, they just didn't have the information or they just didn't feel like it. There were a couple of people that touched on the subject, but nobody just sat down and did it, which is what we did. And it was published in a journal and people can look it up. A lot of people called us after the article was published because it was such a novel approach and something original. And so we looked at 200 private credit funds, North American private credit funds, as I said, mostly invested in leveraged buyouts. So it's all floating rate debt. So it'd all be junk bond rated because it's very leveraged company. So junk bonds for your listeners

42:57might be a single B credit by Moody's and S&P or triple C, sometimes they're B plus or double B minus. So they're junk type quality. We looked at the returns just for seasoned funds that have been around between five and 10 years. And there was no evidence that they beat a public ETF that invests in floating rate junk bonds. No evidence at all. It was basically very similar. It surprised me a lot. The other thing we noticed, which again, surprised me a lot, surprised my colleague,

43:30Mike Immerman of UC Irvine, which by the way, just hired the tallest college basketball player in the world, seven foot nine. They just hired him yesterday or enrolled him in the school, by the way. So we looked it up and the junk bond ETF, the returns were very similar. Now, the thing that was surprised me and Mike was that a lot of the loans in the eight to nine, 10 year age range, you think would have been fully liquidate, fully paid off. But no,

44:0330 or 40% of the loans had not been paid off or not been sold. So again, you had an overhang of unsold or unliquidated loans, much like private equity, where you had a big overhang of unsold companies. There've been some articles about unsold or unliquidated loans that private debt funds are keep him alive by letting them defer interest and principal. You know, I've heard these stories, but this is a private business. It's very hard to get your hands on the information. I'm quizzical about why everybody's flocking to private credit when there's no real evidence that

44:38it beats the public market equivalent, yet the fees are quite high and you're locked in for 10 or 12 years. So another strange happening in the alternative space. The seven foot nine transfer, by the way, is Olivier Rieu, who is Canadian. Oh, really? Okay. He's from Quebec. And they know there's a lot of good basketball players that come out of Canada. Not bad. I played basketball at Northeastern University in Boston. Oh, okay. Fine university. I'm six foot 10. You can't tell when I'm sitting down.

45:09Yeah. I used to play a lot of pickup for like 20 years. So I enjoyed the sport. Nice. Nice. You have a published paper on private credit performance. And after you wrote that paper, Cliffwater, who is one of the big private credit managers and a consultant in that space, they wrote a big, long response, which I've read saying that your analysis was basically wrong. What do you think about their response? Well, I had talked briefly to him before the paper was published. Then he did that two or three page

45:40or four or five page critique. A couple of things. One is his critique really focused on business development companies, which are kind of similar to private credit funds in that business development companies or BDCs, as we call them, invest heavily in private debt. So they would do the same kind of deals or investments that private credit funds do, except some BDCs are publicly traded. A lot are private. His is mostly private, I guess. It's not quite apples to oranges. There are

46:15significant differences between the BDCs and the private credit funds. Secondly, we asked for where he sourced his data that proved our report wrong. And we offered him a chance to publish his findings in a journal and you never heard from him. So I'm not sure whether he thought he got enough public relations impact from writing that report or not. I wasn't quite sure having read his critique, whether he fully accounted for the fees that the BDCs charge or whether he was just calculating the returns that

46:51were gross of fees. I think he included some of the fees, but again, you know, he wouldn't really reply to us. So it was kind of hard to figure out what his critique was all about. Exactly. I'm a little skeptical of it because I thought if he really wanted to tear us apart, he ought to just publish a paper. You know, he gets half of a lot of his employees just write it, crunch all the numbers, but he decided not to do that. Interesting. Jeff, how well do you think retail investors specifically understand the relatively poor

47:21performance of private equity and private credit that you've enumerated here? I don't think they really do. If they did, they'd stay away from it. But as I said, there's been an ongoing hype in the media, business newspapers, podcasts, websites, business magazines. You know, they've just all been pushing us for so many years. As I said, they got kind of skeptical. You got to think of human nature. Wealthy people just don't want to put their money into an index fund because it doesn't sound sexy enough. So they always want to put some

47:55money into an exotic private equity fund or a private credit fund or hedge funds, you know, so they can tell their friends at the tennis club. I just did this with Carlisle. I just did this with XYZ real estate fund. It just sounds better. They're not able to withstand the hype. It's a little tough to do that. So there's kind of ego reasons and maybe illogical motivations that the three of us might think don't make sense. But for the average retail person, they don't quite get it. I can

48:28understand, you know, putting a little play money of your portfolio on some of these exotic things, just so you got something to talk about and follow. And I might say five or 6% of a portfolio. I'm not in your business. And you got to realize a lot of people in your business, they got to generate fees and you get higher fees from pushing alternatives as opposed to public ETS. Yeah. There's a chart recently from the Financial Times showing the amount that has been paid from private funds. I'll see if we can find the chart and put it in the video.

49:00I think I saw that article. It's like $200 million a year. And it just keeps going up, up, up. So there's potentially a conflict of interest there where if wealth managers are being compensated to place dollars in these funds, that would be an incentive to do that. Yeah. I mean, look, the concept of fiduciary obligation, which is something you hear tossed around the United States a lot. I think that's been dead and buried for years. If it was enforced, like it should be enforced, there would be very little private equity and private real estate outstanding. You know, most of the money would have gone to some kind of index ETF or some public

49:36equivalent. I think it's harder than that because as you said, it's hard for you to get an audience to talk about all this stuff. And it's a lot easier for the folks who say, well, actually, no, private equity has performed really well. And if we're in a situation where we have to say, what does a fiduciary invest in? I think there are enough people who would say and try and convince other folks that as a fiduciary, you have to invest in private equity. That's what the US government has been saying. You know, it's not been, it just came out with this new ruling, this stuff, private equity and private real estate, et cetera, 401k funds.

50:08If you look at the executive order and so on, that's trying to promulgate this policy. They're saying the exact same thing. I just don't think it's true. I've talked to a few wealth management conferences, not much, but sometimes occasionally the organizer of a conference, you know, might want some kind of contrarian view to entertain the spectators. And I feel like a skunk in a party. It's very hard, you know, to get them convinced. And while they think what I say is somewhat amusing and different, I don't think many of them really take it seriously. Probably even fewer of them look

50:43up the source data for the studies I've written with my colleagues. Yeah. It's like trying to convince the world that smoking is bad when all the doctors are still endorsing it. Same with lots of other things, smoking, drinking, hot smoking, and so on. It's hard to get people to veer off from pre-established beliefs. You've talked a little bit about this, but when we talk about the returns of private funds, how much of an impact do unrealized investments, like non-market tested valuations for companies that have not been sold, how much of an impact does that have on the

51:16performance that we see reported by funds? Well, the performance is largely based, even for seasoned funds that haven't fully liquidated, is in large part based on these unsold values. So, you know, if you got 20 or 30% unsold after 10 years and you're computing the IRRs, you know, a high percentage is based on these unrealized gains. Before I was writing this article out of curiosity, I picked up something by a money management advisor called Upwelling Capital,

51:47and they actually went through the trouble of looking at how did these unsold values from year 10 to year 15 when they were fully liquidated? How did they evolve? Were they accurate unsold values? Upwelling concluded that they were overestimated by about 20%. Let's say you had a billion dollar fund and you've liquidated 700 million by year 10, that leaves you with 300 million you haven't sold. And so, Upwelling concluded that looking at dozens of funds, that that 300 million really wasn't worth

52:20300 million. It was worth about 20% less. So that would be what, 240 million. So 60 million of your claimed unrealized gain was phony at year 10. And you use that phony claim to help you market new funds. Again, you might say, well, gee, doesn't that sound crooked? Isn't that illegal or something like that? But there's no regulation in private equity or private credit. The government, at least the United States, is totally absent from regulating this industry, even though it's very large. So they

52:54regulate a lot in the public debt space. They have a lot of regulations, public stocks, as everybody knows. But in private equity, it's the Wild West. There's no sheriff in town. Just to clarify, you had mentioned like 30% as a number of unsold holdings. Was that just as an example? Or that is pretty close to the average one would expect? Well, if you look at public equity funds, you can't expect the public equity fund that's only been around four or five years to have sold much. And they only started buying it a few years back.

53:24But if you look at older private equity funds, nine or 10 years old, yeah, it's 30%. The stuff hasn't been sold yet. And for some of the funds I looked at last year, when I was doing that study, it's as high as 50 or 60, which is remarkable. You say, gee, if they started 10 years ago, you'd think they'd sold most of those stuff by now. But I think that's a little surprising to see. And as I pointed out a few minutes ago, private credit's the same problem. You still have a high percent of the assets that are not sold. From the perspective of the industry, if you're running a

54:00private credit or private equity fund or private real estate fund, you start the one fund, let's say 2016, 10 years ago, and you spend all the money by 2019 or 2020, then you're ready to open a new fund. The tendency is to exaggerate how valuable the unsold assets are for the prior fund so you can motivate people and institutional investors to buy into the next fund. So it's a great business. You basically have the private equity funds creating their own homework. They're

54:33telling investors, this is what it's worth. Now, when I presented this dilemma for institutions like Illinois Teachers Association or some college, but I pointed out this issue, I said, why don't you guys, before you invest in one of these funds, send in a SWAT team of experts, accountants, lawyers, to look at the underlying values of each company in the fund before you buy the next one? Despite these funds having billions of dollars, they say, well, we can't afford to hire team

55:04experts to look at it. We have to take the fund manager's word for it, which is a complete opposite of when I was in the M&A business. If some company was buying a $50 million business in an acquisition, they would send in, you know, accountants, lawyers, IT experts. It would cost them hundreds of thousands of dollars to investigate everything about the business to make sure the numbers were accurate. We were acquired about a year and a half ago, and we went through that, and we have now done a few acquisitions of our own since being acquired, and we have similarly gone through that on the

55:36other side. Well, then you know exactly what I'm talking about. The buyers are lifting every rock, seeing what's underneath, they're checking all your numbers and legal documents. But strangely, in the private alternative investment world, there's none of that. The LPs, as they call them, the limited partners, which are the big institutions, they don't do any checking at all. Now, they would say, well, it's up to the gatekeeper to do the checking. That's what I'm paying them for. But the gatekeepers don't do it either. Something that I'm really curious about, and I've seen

56:07mixed information on, is what effect does private equity have on the operational performance of the private companies that they invest in? So the advertising campaign is, maybe we are paying a little more for the companies than we used to, but we have the management expertise as private equity fund managers to improve the business and streamline costs and boost revenue and that sort of thing and make it a better company. There's only one problem with that marketing tactic is it's never been proven. It's very tough for

56:38independent observers who tend to be in academia to get the information. Some of them have said, you know, I've looked at companies that were taken private and then taken public again five years later. And then I compared those companies to public companies that were somewhat similar. And the private ones seem to do a little better, but it's very hard to get the right data points. And then you've had other academics that have somewhat proved the opposite, but they're very inconclusive studies. And you really can't trust the private equity managers association,

57:13private equity managers themselves. They have a lobbying group in Washington that churns out some reports, but you really can't trust them. And so if the independent experts can't come to a conclusion, I don't know how they can keep running around and saying that. But like I said earlier, there's nobody stopping them. The government doesn't stop them from making these claims. And I don't think any of the investors that have been hurt by losses are ready to step up the plate and sue them. So we've talked a lot about the performance differences between public and private

57:46equity and credit. Let's talk a little bit about the various risks. With a focus on retail versus institutional investing, what are the different risks that one would face with private investments as opposed to public ones? Let's forget the returns for a second. The main risk from an individual investing in one of these private alternatives is you're kind of stuck with them for 10 or 12 years. So let's say you need the money for health problems or you want to buy a house in Florida,

58:19what have you. It's tough to liquidate them. There might be a small secondary market, but there's going to be a big spread between the bid and ask. And so you're going to feel ripped off if you only get 60 cents on a dollar for your secondhand private real estate fund. Now, some of the funds for retail, every three months, you can put some of your interest back to the fund manager and get paid net asset value, I think. But that's only 5%. So it would take you a few years to liquidate it

58:51if you needed the money. So that's the main risk is just getting your money back if there's some kind of emergency. The risk gets underappreciated. A good example is in Canada recently, we've had a bunch of private real estate funds that have done reasonably well for a while. And the returns looked super smooth if you put them next to a public REIT. But then recently, real estate prices in Canada dropped quite a bit. And a lot of those private real estate funds that had done well and looked super smooth going up, all of a sudden you couldn't get your money out. Well, they have a three-month option to liquefy some of your holdings. But I mean,

59:25just the average investor in that fund. There's a couple of different things going on. One of them is going to go public. They're going to go through an IPO process, which is going to be interesting to see the outcome of. One of them does have a redemption option that is available. It's like you said, it's a limited amount that can be redeemed. The point is you don't see the volatility. Then when you want liquidity at that smooth value that things have been reported at, you can't get it. When times are bad. In good times, it's fine. Well, let's see. Didn't Blue Al want to merge its private fund with a public one? And then

59:56the private one, you know, it's had a net asset value of $100 to share. And the private one had an asset value of $100. And the private one was $80. If you merged it to the illiquidity discount of a closed-end fund and all that sort of thing, the private investors could only sell at $80. So I guess there was a rebellion happened a couple of months ago. Tricky stuff. There was one other private debt and real estate fund in the US and in Canada that did go through an IPO. And immediately its market price fell way below its previously reported net

1:00:28asset value. What did the Canadian government do about that? Well, that was an American one. I think in Canada, it seems that the regulatory stance is that these are generally in Canada, what are called as exempt market products, where the regulation is a lot more chill. It's exempt market. And so the regulators, I believe their stance has largely been, these are exempt market products. We're not going to do much. What's the same here then? It's very similar. Yeah. Which then puts the onus on the investor, on the end investor, when they're signing those exempt market documents to realize this might be risky.

1:01:02Yeah. Assuming they read them. I mean, when you look at documents like that, they're like 10 pages long, a legal mumbo jumbo. I mean, there's probably three sentences that are relevant, but it's hard for the uninitiated to pick out those three sentences. It's sort of like when you read a private equity or private credit document for the investors, it might be 80 pages long. And if you look at like the carried interest section, I've done many merger deals and private credit deals and all that sort of thing. If you look at the 80 page document, you look at the four

1:01:34or five pages covering carried interest. I mean, it looks like hieroglyphics to me. It's very hard to decipher and figure out the formulas. I can't do it. How someone, even a trained lawyer with some finance experience supposed to do it, or even take the LP who's the Harvard endowment or whatever, that's got a limited staff and doesn't like going over legalese. It's going to be challenging for them. We've talked a lot about the costs of private investments. In fact, Ben, even right off the top,

Fees and Risks

1:02:08you'd kind of mentioned that a lot of these funds actually do show some outperformance gross of fees, but not net of fees. So Jeff, can you give us an idea of the range of fees that you will see in private markets and how that might compare to public equities now, which have become so extremely cheap? Let's take a private equity fund and I'll talk about private credit. So a private equity fund at the institutional level might be one to one and a half percent of commitments. So it's really not

1:02:39one and a half percent of the assets invested because it takes several years to invest. So it's one or two percent on commitments. So if your commitment is 100 million, you're paying 1.5 million a year, even though first few years, it may have only invested 20 or 30 million. So the fees could be seven or 8 percent for the first two years. So that would diminish the returns as I'm sure is obvious to you. When you do all the number crunching, then there's a performance fee that's usually based

1:03:09off a minimum return. The number is usually 8 percent, sometimes it's seven. So if the fund returns a cumulative investment of 8 percent a year, anything over that is essentially split between the manager and the fund investors. On average, the fees annualizes and get out the calculator and computer and spreadsheet and all that, you'll probably see that on average, the funds are 2 to 3 percent a year

1:03:40in cost. The ETF, as you guys know, big ETF that's basically mirroring an index of some kind might be one-tenth of 1 percent, which would be 10 basis points is what we call it. The private funds would be about 25 times more expensive. You just have to be a good investor of private companies to beat the overhang of fees of over 2 percent a year. You've got to be a really great investor. Most of them are pretty smart, but they're not that good to beat that difference in fees, which cumulatively, as you

1:04:13imagine is 15 or 20 percent of your investment. So if you're a football fan, the publicly traded equity index fund starts at the 20-yard line to get to the goal line, and the private equity funds starts at the goal line. They've got to go an extra 20 yards to just match them, much less beat them. So the fees are very high in private equity, and that, I think, hurts the performance. Now, there's been some fee pressure in the business as a result, but it surprisingly hasn't been

1:04:46that effective. The other thing, when I learned studying private credit and looked at it, I was in it for a while, but the funds there are very expensive as well. So you would think with private credit, it'd be easier and therefore cheaper for the private fund manager to make investments because they're fixed income. They're not as risky as equity. You just don't have to study the company as much. But the fees there are usually around 1% or 1.25% fixed per year. And then there's a

1:05:18performance fee, which I think is around 7% per year. And once it breaks 7% cumulative annual return, then I think the split might be 15% of the profits to the manager and the rest, 85% go to the investors. The interesting thing about that was this 7% return, you say, well, gee, that sounds pretty good. But treasuries are around four or four and a half US treasuries. And these junk bond loans that

1:05:48float usually at 4% or 5% above the treasury. So they might be 9% or 10% in some cases. And the 7% was never adjusted for the rise in interest rates. You look at subsequent private credit documents. So I think the private credit is probably a better business than private equity for the industry. The fees are similar. I think the returns will be more stable and the performance fee is pretty good. The other thing that's great about private credit versus private equity is in private credit,

1:06:23the fund manager only has to put up 1% or 2% of the principal of the whole fund. So if it's a billion-dollar fund, they only have to invest 10 to 20 million. In private equity, they're supposed to put up 40 to show their confidence in the fund. So in the case of private credit, you recoup your entire investment in two years. Private equity might take a little longer. We've touched on this a little bit, but in Canada, and I know in the US too, because I've seen you're writing on this, there's been a bit of a regulatory push to make private markets more

1:06:55accessible to retail investors. What effect do you think that will have on retail investors? Well, as I said earlier, I think it's just going to reduce the amount of retirement income they have, whether they got a retirement from the Canadian pension plan or whether they have their personal savings that they put part of their salary into every month or two. It's just going to hurt their returns a little bit. It's not going to be a lot to notice. As I said, CalPERS, with all their sophistication and complexity, underperformed by about 1.3% a year. But

1:07:30the average retail person is not going to have the microscope or the magnifying glass and look at all the fine print and see how they did. They're just not going to do it. It's not going to be very noticeable to them, but it is going to hurt their retirement. I tried to point this out at the institutional level with state pension plans and the union trustees and all that. It's hard to look at how they decrease retirees' income. But if the returns on a fund are not so great, then the state can't raise the retirement payments every month. If the returns were great,

1:08:06they could raise them a little more. So it's going to be the same thing for individuals. They won't be able to go out that extra restaurant meal every month because their pension payment would be a little lower. As you can imagine, as a portfolio manager who uses only boring index funds, I do have a lot of clients who are looking for something a little bit more exciting. I think we do a pretty good job of restraining that impulse. But over the years, I've kind of changed my opinion on how much I think people should allow themselves to scratch

1:08:39the itch by going outside of those core holdings. And I'm interested in what you feel like. I don't invest money for people. I was an investment banker. So I was doing mergers and acquisitions and IPOs and private loans and all that. But I've had a lot of people ask me about that with the exact same thing. And just your average person, as I said, wants to dip their toe in the water of private equity or private credit because it just sounds sexy. I was working with some lawyer. He read all my stuff. And we were working on some complicated case where I had to write a paper

1:09:11about private equity as it had to do with this particular deal. And he was curious about it. Finally, he emailed me a couple of months ago. And he said, yeah, I just bought into a private credit fund. He knew all the dangers, but he just thought he had to pull the trigger on one or two of them. So I don't think it was a huge part of his retirement account, but it could have been 100,000 or something. Yeah. I usually try to tell people, if you can keep it to 5%, please do, whatever dollar amount that happens to be. But I feel like that's probably enough to make you feel like you're doing something a little more exciting. And even if

1:09:45it were to go completely belly up, probably wouldn't cripple you. It's not going to go completely belly up. It's just not going to happen. The worst private equity fund I've ever looked at, maybe 50, 60 cents on the dollar. Even a private credit fund, the private credit funds are going to be a little more diversified. They're senior loans. So in the case of a few bankruptcies, they're probably going to pay out 60, 70 cents on the dollar. The real, I guess, concern one might have is that a lot of these funds, both private equity,

1:10:18private credit, private real estate. They borrow money on top of the money that the portfolio companies borrow. So if I was in your shoes and some of my clients rightly so said, we want to try something a little more exotic. I guess that's the thing I would look at. I would look at, okay, so jump into the swimming pool and buy a private credit fund or private equity fund. But first, let's see what the governance rules say. How much can they borrow on top of the borrowing? That's all. Yeah. It's not quite the same as taking a flyer on a penny stock or something that could easily go to zero. It's a little more conservative. I mean, the governments,

1:10:51at least the United States, the Federal Reserve and the SEC, I guess, express some concern about the loans that the banking industry has made on top of these funds. So there's been some pearl clutching in Washington and New York, but there's no real action. There's just not a lot of data on it. But if you look at marketing documents, you'll see a lot of these funds have debt on top of that. I mean, it's true for the real estate example I gave earlier, those Canadian funds, some of them are now gated or locked up. They're still, the assets are fine. They're just not

1:11:22worth as much as the reported net asset value was. Everybody who's following this, and I assume that's a lot of your listeners, they know that these business development companies or BDCs or these REITs, they're trading at 80% or 85% of their debt asset value, their claim value. And that just reflects partially illiquidity and partially, I guess, investors' belief that the net asset values are just wrong, that they're inflated.

1:11:54Yeah. That's interesting. All right, Jeff, this has been a great conversation. We have one final question for you. How do you define success in your life? My definition of success is you want to have a decent career. I've done a lot of different things internationally, domestically. I've written books, professor, investment banker, private credit, private equity investor. So for me, I've had a decent career. I've also had a good family life. I've been married to the same woman for 39 years. And I have a couple of kids. One of them will have the engagement party tomorrow, by the way. Nice. Congrats.

1:12:24I do want to leave making this world a better place. So I do a lot of pro bono work. I've done other things besides preaching against private equity and private credit and so on. I think that's important to do. I do it usually for nothing. I do it for free as a public service. But I've done other things along public service lines that tend to have some relation to my financial background. So that's been kind of rewarding. It's also something unusual in Wall Street people that

1:12:54they do sort of this kind of pro bono work. But it's been very interesting. So those are the three legs of the stool that I like to think about when I go over what I've been up to. Very nice. And I can tell you that we and our listeners very much appreciate you coming on this podcast to talk about private equity stuff and private credit. It's been my pleasure. Thanks, fellas. Thank you. Thanks, Jeff.

1:13:19Hey, everyone. It's producer Matt. Thank you so much for tuning in to this week's episode. Before we sign off, here's the disclaimer you've been waiting for. Portfolio management and brokerage services in Canada are offered exclusively by PWL Capital, which is regulated by the Canadian Investment Regulatory Organization and is a member of the Canadian Investor Protection Fund. Investment advisory services in the United States of America are offered exclusively by One Digital Investment Advisors, LLC. One Digital and PWL Capital are affiliated entities and they mostly get on really well

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