Article published on April 4, 2018

By Tom Stabile

Oaktree Capital Management, Carlyle Group, Blackstone Group, and others have kept up the product development pace in a busy market for non-traded alts funds registered with the Securities and Exchange Commission. With big private equity players leading the charge, more launches are on the way, say industry watchers.

The market for non-traded real estate investment trusts (REIT), closed-end tender offer and interval funds, and business development company (BDC) vehicles – historically dominated by specialist managers aiming products at the independent brokerages – has undergone a transformation. While regulatory changes paved the way for some of the new product trends, private equity managers entering the market have quickly changed the game, shifting from a sales load-heavy, illiquid format to models with wider appeal to advisors and individual investors via lower fees and greater liquidity. Many of these managers also are seeking exemptions to allow their new non-traded registered vehicles to co-invest in deals and debt alongside institutional strategies.

“You are seeing some of the bigger players continue to be committed to this business,” says Tony Fischer, executive director for national sales at UMB Bank in its institutional banking and asset servicing unit. “The growth is pretty brisk. We continue to see more filings and registrations – more in the last six months than in the last few years.”

The onslaught of changes and competition have shifted not only product sets but also players, says Tony Chereso, CEO at theInvestment Program Association, an industry group for non-traded alts fund managers that last week opened a new chapter in New York. Some longstanding non-traded fund managers have bowed out, while others have converted products to newer formats or sought buyers.  “Will there be a shakeout?” he asks. “Yes. Now the gauntlet is down from the institutional firms. Everyone is adapting.”

Interval funds may be the busiest corner, with a wave of the new closed-end fund structures registered in the past year, including a private credit fund that Carlyle and OppenheimerFunds filed in December through their new joint venture. The product, which will have quarterly net asset value (NAV) pricing, aims to invest via direct lending, syndicated loan, opportunistic debt, and liquid credit strategies and to co-invest with Carlyle’s institutional funds.

Non-traded REITS are also seeing a surge. In February, Oaktree filed documents for a $2 billion fund that strikes a monthly NAV and features lower sales loads, a fund structure similar to new strategies from Starwood Capital Group, Nuveen’s TH Real Estate, and most notably Blackstone. The vehicle Blackstone launched in 2016 has come to dominate the non-traded REIT market, grabbing 44% of all sales last year and 70% of the market in February, hauling in $2.3 billion in new capital overall, according to Blue Vault Partners.

And while BDCs have been the quietest corner, that may change thanks in part to a new federal law allowing them to boost leverage levels and remove certain administrative fees, Chereso says. Even before that change, BC Partners, a $21 billion private equity firm, filed in December to launch a new non-traded BDC that will invest in direct senior and unitranche loans as well as other debt instruments, co-investing with its other institutional funds. And Blackstone has signaled plans to launch BDCs later this year, after itexits a partnership with FS Investments.

As private equity firms have jumped in, so have traditional managers, with PIMCO, BlackRock, Morgan Stanley, Nuveen, andNeuberger Berman all filing for non-traded alts fund moves last year. Many of them are stretching into closed-end funds as a way to expand revenue, says Kimberly Flynn, managing director for alternative investments at XA Investments, which runs closed-end funds with alts managers as sub-advisors.

“The mainline firms… are seeing the margins on their mutual fund business shrinking as they’ve had to cut fees,” she adds.

So far, only Blackstone’s REIT has taken off in terms of sales, but managers are not concerned yet, Chereso says. Most managers see a learning curve ahead on non-traded alts funds for wirehouse and independent registered investment advisor (RIA) firms, and see current efforts as a path to build track records and be ready to attract advisor attention when equity markets “soften up,” he says.

Even smaller private equity managers see opportunity in a changed marketplace, with last year’s federal tax cut bill making non-traded REITs more attractive, helping spur development of a new $50 million offering from Casoro Capital, says CEO Yuen Yung. Its new Upside Avenue REIT will co-invest alongside Casoro’s private funds for family office, high-net-worth, and institutional investors, Yung says.

Casoro specifically aimed for its new REIT to have no upfront fees with annual liquidity, says Joy Schoffler, chief strategy officer at Upside. “We purposely designed this to be more of a product for the RIA market,” she says.

The new non-traded alts product evolution is still playing out, and there may be some options that end up more or less popular over time. One set of interval funds is featuring up to 60% of investments in a more liquid format, while charging less than standard 2% management and 20% performance fees for alts funds, which brings them closer to mutual funds, Flynn says. “I don’t mind paying 2 and 20 if I’m getting what institutions are getting in terms of investments,” she says. “Some advisors might think it’s a bargain at 125 bps, but I’m not sure they’ll know they are not getting institutional-quality assets.”

Similarly, offering greater liquidity – including even monthly repurchase options – may be popular with advisors, but might not let managers run investments optimally, Fischer says. “No manager wants to be forced to redeem a position because they have to meet a redemption request,” he adds.