May 24, 2023
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Mark Buffington
MB on VC: Track, Jockey, or Horse?
To create startup success, which is most important: the Track, the Jockey, or the Horse? VCs don't always agree. See what we argue for and why.
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Over 17 years ago, Bill Harris and I co-founded BIP Wealth. At the time, we planned to do something novel – to provide individual investors and families with consistent, high-quality access to private market opportunities as a part of a comprehensive investment management and financial plan. Well-versed in financial science and academic evidence, we wondered why other investment advisors had not pursued such a plan. After all, the evidence was clear – private market investment opportunities, on average, produce superior results when compared to public markets. So, we pushed forward and launched a new wealth management firm with a differentiated approach.
Although our clients and prospective clients immediately gravitated to our unique value proposition, other market participants ridiculed or looked down their noses at us.
Many other RIAs said we were crazy to draw attention to performance. For years, the industry had invested massive amounts of marketing money to convince individual investors that index returns were good enough and that financial planning and responsive service were the only relevant factors individuals should consider when selecting an investment advisor. Bill and I persisted in our belief that high-quality financial planning and high-touch service, coupled with world-class investment management (which included private market opportunities), was the best path forward. We even created our tagline, "Engineered to Perform." That tagline persists today.
While we could hardly call them competition based on our win record against them, they did everything they could to sell against us. When we were competing against wirehouse brokers for a client, and they saw our investment strategies and proposals, they countered by hyping up inferior public market investment products. When that failed, they went one step further and tried to convince clients to take second mortgages on their homes. That would create more cash for investment, and then their clients could invest in those same inferior public market investment products they originally promoted. When that failed, they fell back on their brand name. "Here at [enter any wirehouse brokerage firm], we have been in business for almost a century," they would say. But they conveniently left out how many times the government has bailed them out or that the same brand has been involved in multiple schemes to take advantage of individual investors.
Despite all their efforts, their product was inferior, and individual investors who had a chance to compare our approach to the wirehouse approach saw through their gimmicks. After a long string of losses, they eventually tried to compete. Today, true to form, they are in-market offering inferior but very expensive private market products to average investment managers. It's all about the fees and commissions with these guys, and it always has been.
Institutional investors and endowments, which had dominated private market investing for decades, first noticed our presence in private markets in 2010, immediately after our first big exit. Even though we were rapidly becoming the most active VC in a major metropolitan area (Atlanta) and a rapidly growing region (the Southeast), institutions could not get over the fact that we had not yet raised other institutional capital. To them, it wasn't about our results or the quality of our approach; it was about whether other institutions were invested in us. Lemming much?
Time and again, we went back to institutions to raise capital, but the conversation was the same: "Great results, team BIP," they would say, "but what other Institutions are invested in you?" Not until 2015 did we land our first institutional investor.
Even today, when we have produced consistent top-quartile returns in the venture capital asset class for almost two decades and manage significantly more money than most of the institutions we pitch, they still question our strategy. We don't neatly fit into their narrow Asset Allocation Models. They want to invest in funds that can clearly say, "We are Series A investors in Southeastern Companies in the Healthcare IT space." Despite how limiting that is, plus the fact that it creates a major drag on returns, they just can't adopt new, more flexible, and sophisticated investment models. Fair enough. There are plenty of investors across the globe who will tolerate bottom performance.
Over time, though, increasing numbers of consumers (individuals and families) seeking a better value proposition have found their way to BIP Wealth. As Eric Cramer says in his Annual Market Reviews, "Markets Adapt and Capitalism Survives!" [Note: if you haven't attended one of Eric's Annual Market Review presentations, do yourself a favor and attend one.]
Consumers eventually find their way to the most efficient solutions. In economic terms, that is the Pareto point where buyers can obtain the most value for the best price. Time and again, consumers who are free to choose, regardless of the marketplace, select options that provide the greatest value to them for the least amount of money. Sometimes, market dynamics and externalities exist that limit consumer choice – like outdated regulatory frameworks, misleading marketing by market participants (read: wirehouses), or even scenarios where one or two companies in a market control supply (monopolies or monopolistic oligopolies).
Eventually, consumer choice and innovation win out. That is exactly what is happening in the Wealth Management industry.
In the last five years, we've seen a noticeable rise in the number of wealth advisors in private markets. It turns out Bill and I were on to something 17 years ago. The reason is simple—on average, private markets provide superior risk-adjusted returns (see the chart below). And markets (which are essentially just collections of people buying and selling a service or good) adapt.
RIAs increasingly want to build more mean-variance efficient portfolios (a fancy financial science term for "get the most return for the least amount of risk") for their clients. It took them decades to catch on, but Registered Investment Advisors are now seeking out alternative assets such as private debt, private equity, real estate, and venture capital like never before. But individual investors and families working with advisors with limited experience in private markets should beware.
The adoption of private market solutions by advisors is, at the margin, a good thing. It's good for society and innovators, and it's good for investors. But all private market products are not created equal. Many advisors have no experience in private markets, nor do they have access to high-quality private market managers. As a result, we have seen several advisors who have jumped into private markets get burned. They invested in managers like Tiger Global, which saw a 70% decline in the value of their portfolio in 2022. Or they invested in the highly touted ARK Fund, which has lost 75% of its value since mid-2021. To be clear, plenty of Institutional Investors made the same mistake, but advisors entering private markets would be wise to disregard Silicon Valley and Wall Street hype in favor of private market funds that deliver consistent DPI and high batting averages.
Despite some of the stumbles by inexperienced advisors, the advisor of the future will have to be competitive in offering private market solutions. The benefit of private markets is simply too great for advisors to ignore, and there is already ample evidence that falling back on selling financial planning and personal service alone will be a losing game for advisors. They will have to become competent in evaluating and investing in private managers, or they will have to partner with advisory firms that have these skills. That imperative has given rise to Advisor Mega Platforms.
There are a handful of RIAs that are emerging as mega platforms. They are providing four main value propositions.
Think of the emerging Advisor Mega Platforms as Multi-Family Offices (MFOs) for the Mass Affluent. The table stakes are rising in the Wealth Management space; market participants are demanding it. This higher level of coordinated value is only possible with deeply experienced, talented teams and sophisticated technology. The off-the-shelf technology (at least as a stand-alone platform) will be insufficient to support the emerging Advisor Mega Platforms. Attracting and hiring market-leading talent is expensive. Building technology to support an array of expanded service offerings is expensive. And many small and mid-sized advisors will be unable to keep pace.
These market dynamics will inevitably lead to consolidation. Intelligent, thoughtful consolidation will benefit advisors, their clients, their employees, and their businesses. We're actively engaging with philosophically aligned advisors and we welcome a conversation with you.
Footnote: Source: Morningstar, from 10/1/2007 to 9/30/2022 Quarterly returns used for Return and Volatility. Standard Deviation is Volatility. The following indexes were used for returns and volatility placement: Private Credit: Cliffwater Direct Lending Index, High Yield: Bloomberg High Yield Bond Index, Private Real Estate: NFI-ODCE Index, Investment Grade Bonds: Bloomberg Aggregate Bond Index, Public REITs: MSCI US REIT Index, Private Equity: Cambridge Associates U.S. Private Equity. Source: Barings Private Credit Corp marketing presentation, dated January 2023. For illustrative purposes only. Any prospective investor should not rely on the accuracy of the data presented in this graph, but rather consult their investment professional and review all offering documents carefully. Actual results may vary.
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