Morningstar - Q2 2022 - 41

iteration was the entry of aggregators that, at a
cost, combined small-accredited investors to meet
a fund's minimum investment amounts.
In private markets, smaller noninstitutional
platforms have strong growth, providing liquidity
pockets, Dutch auctions, and request for
quotations to these investors. The larger private
funds have no incentives to engage with
these platforms, but much as managed accounts
took liquid alternatives to the mass market,
private funds need to find a way to collaborate
to achieve broader acceptance.
Fund Access Points
Traditional asset managers were aware of the
growth of managed accounts. They brought
institutional-grade infrastructure and deep
distribution networks, capabilities that could touch
not only U.S. and European markets but also
allow for feeder funds from Asia and Oceania,
bringing unprecedented scale-a requirement
given the absence of performance fees. A
flagship offering could mutate overnight into a
long/short or market-neutral version. These
firms could provide in-house aggregated
risk reporting; third-party support services such as
prime brokers, custodians, and administrators
could easily handle the breadth. While no
one measure drove the AUM growth in liquid
alternatives during the 2010s, the convergence
of traditional funds and hedge funds lit a fire
under the category.
In private markets, the closed-end fund structure
has been the typical publicly traded entry
point, but innovations found in other markets are
now entering the U.S. One example is interval
funds, which provide investors access to private
credit and debt, with close to $40 billion in
issuance across 70 products. These structures
come with caveats, mainly about how they price
assets and deliver the proceeds.
The notice period is well in advance of the liquidity
window, and the setting of the redemption
price is significantly after the redemption request
is made, leaving a cloud over the proceeds
investors receive. As we saw with funds of hedge
funds, once redemptions are scaled back,
investors submit bigger requests in subsequent
windows, and illiquidity quickly results, leaving
investors locked in a product with a declining net
asset value. Public- and private-market
convergence, therefore, is most likely to occur first
in crossover funds, where a slice of private
exposure is added to a public-market portfolio or
within target-date funds, whose investment
horizon is more aligned with private-market assets.
Did Liquid Alts Meet Expectations?
The most frequent criticisms of offering illiquid
products in liquid form are that investors lose
the illiquidity premium, manager quality is poor,
and the strategies are constrained. Investors
may have harbored unrealistic expectations
of receiving the returns of top-tier hedge funds
in a daily priced form, yet the Morningstar
Category averages over the past decade to
February 2022 in many cases exceed HFRX hedge
fund indexes (EXHIBIT 3 ). These are very small
datasets often dominated by either public equities
or liquid futures, areas where we wouldn't
expect a liquidity premium, but it still raises the
question of whether the vaunted illiquidity
premium is overstated.
EXHIBIT 4
Big Players Dominate Liquid alternatives fund investors are sticking to the
household names. Will the same occur with private-market funds?
Total Asset Size of Liquid Alternatives Within the 10 Largest Liquid Alternatives Managers
Net Assets
Name
JPMorgan
BlackRock
Calamos Investments
Natixis Funds
Neuberger Berman
Blackstone
Virtus
Goldman Sachs
AQR Capital Management
Pimco
$0B
Source: Morningstar Direct. Data as of 02/28/2022.
5
10
15
20
25
30
February 2022
February 2021
The quality of these offerings is a valid concern,
but the subadvisors in these categories contain
names such as AQR Capital Management,
Graham Capital Management, Man AHL, and
Blackstone BX, which has access to heavyweights
D.E. Shaw and Two Sigma in its multimanager
portfolio. Many investors stick to the household
names; the vast global distribution networks of
JPMorgan JPM and BlackRock BLK control nearly
one third of liquid alternative AUM ( EXHIBIT 4 ).
Morningstar research has noted a first-mover
advantage in the most popular liquid-alts products.
Longevity, familiarity, and a strong parent
pillar appear to be prerequisites for success in a
category with a short shelf life and high lineup
churn. This suggests that the first movers
to cross over from private markets may well take,
and retain, the lion's share of assets.
In terms of execution, liquid alternatives may
use leverage, just not as much as hedge funds,
but there are very limited strategies where
this would be a disadvantage. Breadth of
securities traded, or gaining access to markets
morningstar.com/products/magazine
41
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