When investors talk about ‘liquidity’, they are really talking about how easily an asset can be converted into cash without affecting its price. So, the more liquid an asset, the easier it is to convert. Nothing is more liquid than cash, of course, and less liquid assets might be things like property, where there is a long lead time to close a sale.

This all begs the question, why do investors care about liquidity in the first place? For the most part, it comes down to flexibility. If you have an urgent financial commitment, enduring a long wait to access cash is a problem. Similarly, if you sense a market downturn on the horizon, you may wish to rebalance your portfolio quickly. The upshot is that liquidity matters, especially today.

When it comes to private equity (PE), though, investments are mostly made over a longer term, meaning liquidity is typically limited. However, investors have a middle ground they can turn to – semi-liquid assets – and signs indicate they are doing so in increasing numbers. Semi-liquid funds have reached a record high of $350bn of assets globally, and the majority of Europe’s largest private banks are embracing their rise.

What does semi-liquid mean in private equity?

For investors who want the ability to easily access their funds and reap the benefits of PE investments, semi-liquid assets strike a good balance. They do this by offering a degree of liquidity along with the potential high returns of PE.

To facilitate this, semi-liquid assets provide opportunities for liquidity, i.e. accessing capital during the investment period itself. This contrasts with the approach of investing in closed ended funds, which can see capital locked up for up to a decade.

With semi-liquid assets, investors’ opportunities to access capital are set out in what’s known as a ‘redemption schedule’. There are several approaches a fund might take here. There may be a ‘periodic’ redemption window, say the last week of each quarter, during which investors can request to redeem their shares. Or, as in structured liquidity events, there could be predetermined times at which investors can access set portions of their capital. Whatever the schedule, the aim is to satisfy the needs of investors who require more flexibility, while balancing the benefits and drawbacks of PE. However, it’s important to note that while semi-liquid assets offer more flexibility than traditional closed-ended funds, there are trade offs, such as potentially lower returns or higher fees. Weighing the benefits against these drawbacks is crucial for investors when evaluating these two options.

What are some examples of semi-liquid assets?

There are several different kinds of semi-liquid funds in PE, each with a different structure and level of liquidity. They include:

• Interval funds: these funds offer to buy back a portion of their shares from investors, providing access to liquidity at set intervals. Buybacks typically occur at quarterly or semi-annual intervals.
• Tender offer funds: these funds work in a similar way, offering to buy shares from investors through ‘tender offers.’ They offer a structured way for investors to redeem their investments at specific times, striking more of a balance between liquidity and longer-term investment strategies.
• Direct secondary funds: these funds focus on buying existing stakes from other investors. This provides liquidity for original investors while allowing new investors to gain exposure to PE investments without the need for a long-term commitment.

Despite the differences, each of these options allows investors to access some degree of liquidity alongside the potential for high returns. Industry experts believe that continued innovation in semi-liquid funds and product structure will be a key differentiator for successful PE firms over the coming years.

Why might private investors consider semi-liquid assets?

Increasingly, PE is targeting individual investors with tailored products. In the context of this concerted push, private investors might be attracted to semi-liquid PE funds for several reasons:

• Increased liquidity: compared to traditional PE, semi-liquid assets offer the flexibility to access capital while still benefiting from high potential returns.
• Diversification and risk reduction: investors can gain exposure to a wider array of alternative assets via semi-liquid funds, such as private equity and real estate, which are less linked to the performance of public markets.
• Lower barriers to entry: typically, semi-liquid funds have lower investment minimums than closed-end PE funds, meaning that semi-liquid assets are more accessible to individual and smaller institutional investors.
• Immediate exposure to markets: when they invest, investors get immediate exposure to the assets already in a semi-liquid fund. With a closed-end fund, they would typically have to wait several years for a fund to build capital and then invest it.

Given the range of these benefits, it is worth exploring the kinds of scenarios in which a private investor might consider investing in semi-liquid assets. Let’s take the example of a private investor nearing retirement. They might allocate a portion of their portfolio to semi-liquid PE funds – giving them the growth potential to boost their retirement savings while ensuring they can access funds when required. In another case, a private investor may have a more medium-term financial goal, such as paying for a child’s education. Investing in semi-liquid assets potentially offer the growth needed to meet this future expense, without locking up capital for an extended period. In each scenario, we can clearly see the interplay of flexibility and value capture.

What are the trade-offs with semi-liquid assets?

While semi-liquid assets do offer many benefits, there are still trade-offs involved. A major drawback is the reduced liquidity compared to publicly traded assets. If an investor makes a redemption request, it can still take months to be processed. Contrast this with the speed at which a share can be sold, for example, and you can see how semi-liquid assets may not meet the liquidity needs of some investors.

There is also the issue of liquidity risk or the possibility that a redemption request may not be fully met or facilitated at all during a period of high demand. Of course, if this happens, it undermines the principal benefit of investing in semi-liquid assets – flexibility. It can occur, so the risk should feature in an investor’s decision-making.

Balancing flexibility and value

Semi-liquid assets in private equity can offer a middle ground for investors who prize both flexibility and the potential for high-value returns. Compared to traditional PE investments, semi-liquid assets offer more liquidity – but this comes with drawbacks. There is less liquidity compared to publicly traded assets, for example. Another risk to consider is gating, the practice of limiting or suspending redemptions during periods of market stress. This could reduce your access to your capital at a time when you need it.

Understanding the unique characteristics of semi-liquid assets and the trade-offs involved can help investors make more informed decisions and tailor their investment strategies to support their financial goals.