Be smart about "smart money"

If advisers find that new funds make sense for their clients, they need to crank up their due-diligence engines.

Jan 12, 2014 @ 12:01 am

They don't label the “smart money” as such for nothing. As a group, that class of investor includes institutions such as pension funds, sovereign-wealth funds, endowments and even some ultrahigh-net-worth family offices.

Why is that money called smart? With those huge piles of cash comes access to the best thinking — and thus the best products — investment management has to offer. It means entrée into the top-ranked hedge funds, private-equity funds and other investments Main Street investors never see.

So when a large private-equity fund company or hedge fund firm files with regulators to offer a '40 Act mutual fund, financial advisers should stand up and take note. And if they find that the funds being offered make sense for their clients, they need to crank up their due-diligence engines.


Recently, two of the biggest and well-known private-equity shops, The Carlyle Group and The Blackstone Group, made such moves. This month, Carlyle filed to offer its first liquid-alternatives mutual funds, with plans for a long/short commodities fund and a balanced-risk global-allocation fund. Last month, Blackstone filed for its first fund of nontraded real estate investment trusts. Another well-known private-equity firm, KKR & Co., launched retail funds in late 2012.

Clearly, these firms have their finger on the pulse of the marketplace and understand that investors — retail in-vestors included — are facing hard decisions. The 30-year bull market in bonds has ended and firms need to substitute something for their bond allocations that will provide some income, some safety or even some return. They undoubtedly also have noticed that retail investors, primarily through their financial advisers, already have been loading up on alternatives to stocks and bonds.


According to Morningstar Inc., liquid-alternatives mutual funds had more than $88 billion in net inflows through the first 11 months of 2013, up from $19 billion in all of 2012. And 2013 was a banner year for nontraded-REIT funds, which enjoyed sales of about $20 billion, double the amount of 2012.

While it's good that everyday investors will soon be able to tap into the brainpower of the managers who have made firms such as Blackstone and Carlyle so wildly successful, the onus is on financial advisers to fully and deeply vet any of these newfangled mutual funds.

Some of the key questions that advisers need to ask and, more importantly, get answers to, include: Are the funds being offered in the wheelhouse of the firms? Notably, neither Blackstone nor Carlyle is offering mutual funds created from private-equity investments, which are their forte. So how much of the firm's expertise is truly being spent on these funds?

Second, how will these funds be tracked? In other words, what kind of benchmarks will be available for advisers to gauge the performance of these funds accurately over time?

And finally, how transparent will these funds be? One of the hang-ups that private-equity and other alternatives firms have had over retail mutual funds is daily pricing and the need to be transparent.

So just because the shiny new mutual fund wrapper says The Blackstone Group or The Carlyle Group, advisers can't simply sign up and assume they've joined the ranks of the smart money.


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