Fran Kinniry on Private Equity Portfolio Investments (Podcast)

He sits at at one of the largest investment managers in the world. Of Anger Group runs you know, over seven trillion dollars for thirty million clients, and so that makes him the perfect person to speak to about portfolios, equities, bonds, private equity. I found this conversation to be absolutely fascinating and I think you will also so with no further ado, my interview with Vanguard Groups Fran Kinnery. This is Mesters in Business with Very Results on Bluebird Radio. This week.

Once again I have an extra special guest. His name is Fran Kinnery and he is Vanguard's global head of Private Investments. Previously, he was principal in the Investment Strategy Group and Global Head of Portfolio Construction at the seven trillion dollar Vanguard Group, where he has worked for twenty three years. Uh He is one of the people who helped create the concept of Advisor's Alpha, which focuses on advice and behavioral counseling. Last year, he was named to

head up Vanguard's private equity initiative. My firm, Rituals Wealth Management, works with Vanguard. They're one of the biggest fund providers that we operate with, and I have been privileged to not only interview every CEO that Vanguard has ever had, some multiple times, but a number of other people from various departments research, stocks, bonds, etcetera, including Fran. This is our our second conversation, and I just wanted to make it clear and transparent that my firm has a relationship

with Vanguard. Fran Kinnery, Welcome back to Masters in Business. Thanks Barry. It's great to be back on the show with you. So you've been at Vanguard since, but clearly this is a new role. Global head of Private Investments. Tell us about how this new initiative came about and

you're rolling that. Yeah, I've been very lucky, very I've been there as you said, twenty three years, and I've had the great fortune to help Vanguard with three startups, which you know, a firm that's been around since and as large as we are too, who helped three startups has just been great for me and I'm just very humbled for that opportunity. I arrived in ninety seven. As you mentioned that, my role was to help Vanguards start

its advice initiatives UM. My role was the head up the investment and financial planning methodology for our advice UH launch. Once that was up and running UM, in two thousand and one, they asked me to help start up Vanguard's investment Counseling and Research group and that was then rebranded

to the Investment Strategy Group. That team was really responsible and my specific role asset class research, portfolio construction, financial planning, wealth planning, investor behavior UM and then as you mentioned, advisors out. So in that role I had covered the asset classes and had written several research reports on private equity, and so when the scene or leaders of Banguard decided to go into private equity, I was just very lucky and humbled that they selected me to lead the entry

to market. Quite interesting so let's talk a little bit about the firm's history and philosophy. Uh. Jack Bogel was notorious for wanting to keep things simple and inexpensive, so much so he wasn't even thrilled with e t s, which were potentially traded every day. How can you do private equity in a way that's consistent with your founder's core principles? Yeah, and and Barry, you and I know each other, and and most people know Jack and I had a pretty close relationship. You up until his passing

in two thousand and nineteen. I was very lucky to stay very close to him. We would catch up for lunch on a monthly basis. And I think, as you said, he was mostly concerned with ets and what they trade, right, because really an et F as an index fund, which was certainly JACKO was a champion of indexing, but distributed on an exchange rather than bought and sold directly at Vanguard, And so certainly he would believe in all of the attributes of ets, but he really was concerned would investors

use them properly? And so I would show him the data, especially the Vanguard ets. These were building block portfolios that were not traded. Certainly, there's five or six institutional products that trade with high velocity, but they're mostly used by institutional investors and more of a surrogate or replacement for the overnight exposure. And so, but if you look at the majority of ets, they have really good holding periods

and used correctly. We would say that private equity would you know, had Jack been alive, would would embrace the offer. A lot of people do not know that Vanguards started. Jack started Vanguard as an actively managed shop, and so what Jack really stood for was taking institutional, world class investment offers down to main street investors and so private equity and trying to democratize or bring private equity to retail main street investors. I think he would be cheering

me on huh. Well, the one thing you don't have to worry about with private equity is access trading. And we'll talk about the liquidly premium or illiquidity premium in a little bit, but let's talk about the concept of Vanguard bringing private equity to retail investors. Tell us about how this process is going. Yeah, so the process is going very well, very We launched in February right before

you know, the COVID shutdowns in February. We decided to stage this in very thoughtfully and very care fill a meaning that we started. Vanguard has an O c I O business, which is an institutional asset management business where the endowment and foundation turns over the keys to us

to manage the portfolio. Private equity has been used in some of the most sophisticated endowments and foundations and sovereign wealth funds for thirty or forty years and has really improved outcomes for those who have used private equity well. So we started in our O c I O space as I mentioned February. You may have seen the press release or the audience may have seen the press release

in May. We then extended that to our ultra high net worth retailed direct investors, and then later this year we will be expanding that further to our personal advice clients, which is our retail advisory business UM at the qualified level right there are still regulatory gates here, so our offer right now will be at to qualify the QP level and the accredited level UM In in short, it's having a certain asset and wealth threshold to make it through that gap. So I'm kind of fascinated by how

Vanguard does this on a regular basis. Something starts out essentially with an institutional audience and eventually works its way down a series of tears until it's at mom and pop mainstream investors. So you did this with just about everything else that Vanguard offers, but let's stick with private equity. It starts out institutional, it goes to outsourced chief investment officers, accredited investors, advised investors. Will this eventually make its way

down to mom and pop main street investors? That's our goal. Um, if you read the original press released, Kim Buckley, who is our CEO, and I have worked on this closely together. Our all is to really bring this to main street investors. But I want to be clear under the right conditions vary, and with what I mean by that is, um, we don't want to put private equity out there for retail investors to just buy this direct, meaning that an investment can come in and and and put fifty percent of

their assets. We believe it has a really strong place where we are designing the portfolio. You know, I was the head of portfolio construction for seventeen years here at Vanguard. So whether we are doing it through our own advice or we are saying that what the allocation will be as part of a multi asset class portfolio and our O c I O business or in our personal advisor business.

But then there's also embedded advice things like target retirement funds, where you know, we actually set the asset allocations, we rebalance it. Uh, these are long duration investors and we think that that would be a very very prudent way to bring private equity to main street investor ters. So we're working on that. UM, we're going to keep working

on that, and that is our long term vision. What does the timeline look like for this, because I imagine this is a slow, gradual, iterative process that involves a series of let's try this, we'll find out what the bugs are. All right, let's fix that. Now we have this issue we have to resolve. What does this timeline look like over the next decade. Yeah, the timelines are, as you mentioned, very difficult, um and tricky, But I

think you characterize that correctly. By us starting in the O C I O space, you're talking about very large

endowments where the peer group has used private equity. Then we go to the ultra high net worth five million plus UM direct or advised, We're gonna learn a lot, We're gonna fix a lot of things, UM, And at the end of the day, you know, we are going to put all of our efforts to bring us to main street investors because we have you think, target retirement funds UM could really benefit from private equity when you look at the returns and the diversification and the duration

of these investors, you know, thirty to seventy year horizons. UM. So we're going to do it very thoughtfully, very carefully, and so I really don't have a timeline for you very You spent seventeen years doing portfolio construction at Vanguard. Where does private equity fit into an investor's portfolio? Yeah, the way we're thinking about it very after extensive, as

you mentioned, seventeen years of research. We would think that the private equity allocation comes out of your public equity allocation. And sometimes it's just easy to use the numbers of the maps. Let's say a client is sixty forty equity fixed income. We would think that the allocation comes out of that sixty component. So let's just use a number.

Let's just say thirty percent. An investor decides to be thirty percent private equity, So instead of being sixty forty stock bond, you know, the thirty on sixty would be eighteen, right, So now they would be eighteen percent private equity and forty two percent public equity maintaining their in bonds. And when you look at that, so you're not really increasing

the risk budget of the portfolio. Um. In fact, you actually have diversification because all of these operating private companies are not in the public universe, the correlations are not at one, and you have return enhancements. So um, you know, it is a really viable, prudent asset class to add into a portfolio if it's funded out of the right way, and we would be funding this from public equity. My reaction was because I immediately thought you were talking thirty thirty.

But what I misinterpreted you you meant of the sixty, not of the overall. That's right, so stead of you would be forty two public equity, eighteen private equity and then still bonds. All right, So let's talk a little bit about the various private equity firms you work with. There are thousands of them. How did you begin the process of narrowing it down to a handful of them

and what was the vetting process like? Yeah, so while many investors may know Vanguard is indexing, we are actually one of the largest UM and actually have one of the most successful active management practices UM in in the

asset management space. I mentioned that we started Vanguard as an actively managed firm, and so we have, you know, our entire history of doing manager oversight and selection and search, and so when you know, we we decided to go into the space, the next step was canvassing the managers who are world class and so we you know, we we went through a process of you know, we have a database and we started with narrative down to let's

say forty plus firms. We then had deep meetings with about ten of those firms, and then we actually but you know, did site visits on site and and then had them visit us. With five firms, we we narrowed that down to two um where we really spent another extra deep dive and then we selected Harbor Best UM as the final winner of the partnership to move forward with.

And so we had a long history of understanding what works in active management are actively managed funds without performed consistently their peers and access about performed the indexes they track on the public side, and harbor Best performance has continually to outperform the median and average private equity manager. So you know, we we can do the due diligence for our investors and that's that's a lot uh to

put forward for the average investor. And so we are very comfortable that we have found a great partner in harbor Vest. So I want to talk a little more about harbor Vest in a moment. But first I should have said this, and I admitted this, but let me clarify this. Uh. It's more than thirty of the seven something trillion dollars in assets are are actively managed, and Vanguard's ability to identify managers who can be successful is

a core competency. Am I getting that right? And please correct me on on my numbers in terms of and seven trillion. I know those numbers move around a lot. Yeah, that's right, Verry, And and size has never been a goal for Vanguard, So I know people will look at the seven trillion or the look at the one point seven trillion. We have an active and that's what we have. UM, we believe that our size is you know, first off,

we have thirty million investors, so not Vanguard's assets. Vanguard is the steward of thirty million investors who have trusted us with their assets because we have served them well. We believe that the investment population is a very very smart population. There's an incredible competition in the mutual fund space. There's actually, I believe three times the amount of mutual funds that there are individual stocks. So there's a lot

of choice out there. And I think our size and our growth has come from serving investors very well on investment performance and on client service, and so our size is really a tribute to you know, serving them well. But as you mentioned, we are one of the largest active managers. We continuously are in the seventy five top death style relative to the active peer groups across all the asset classes, you know, so taxable, fixed income, tax

exem fixed income, and equity. And then lastly, it's it's one thing to beat your peer group, but we actually out for form the indexes that we track, So I know this movement to indexing has been strong, it's probably been warranted. UM and indexing should outperform the average manager, but that loses sight of that not all managers are average. If you can find talent and you deliver that at

a reasonable cost. The evidence would show that Vanguard's active funds together have added about fifty basis points on top of the indexes that they tracked, and that's very meaningful if you can calm down that over thirty to forty years UM. And so our investors have been very well served with our active offer. So let's talk about harbor Vest. Your your partner on this private equity for investors at Vanguard.

How did you land on them? And tell us what they bring that is unique compared to some of the people that might have come in second or third. Yeah, I think it all starts with UM. You know how we think about what matters in active management UM, And that all starts with the firm and the people. Those are the two critical components the firm. We want to make sure that they are putting clients first. UM. And

I know that's the common terminology put clients first. But all of our interactions with harbor Vests where basically, if we treat our clients well, if we give them high outcomes. Growth follows as opposed to growth being the mission. The mission should be serving clients. Well, you know, the Simon spent a quote of you know, leaders eat last, and so we think about that that our asset owners at Vanguard, and it became very clear to us that the asset

owners of Harbor vests the clients come first. The owners eat last. They take the spoils that are left over after the clients do well. And we heard that time and time again. It shows and how their partnership is structured, meaning that economics and we see this time and time again when economics are very widely spread out throughout the organization that attracts the top talent um. And this is

a talent in people business. So when ownership is public, or ownership is controlled by let's say a few founding founders, um, you may not get necessarily the talent when the economics and the rewards are spread out much more democratically. And so we found a firm that has post to forty years of experience where a structure and alignment of client

first and the people and the culture. And then lastly we look at performance and the performance has just been outstanding relative to the medium and average private equity offer quite interesting. Let's talk a little bit about the vanguard approach to private equity, starting with returns. What sort of returns this vanguard looking for from pe relative to you know, playing vanilla stocks and bots. Yeah, our our return expectation, again is all formed off of our deep research verry UM.

So if you were to look at the median private equity firm relative to you know, let's say the public markets in all world public markets, you get about average returns, right, You're gonna get you know, returns on top of the market.

So it's all about manager selection. Um. But here you're familiar with the quartile rankings of public managers where they're quite wide, but in private equity they're they're almost two x that meaning that the top quartile um has returns somewhere in the high twenties, and the fourth quartile is negative fourteen UM and then in around you know, quartile three and two, it's it's right around uh, you know,

the average. So this is all about manager selection, and if you were able to you don't have to be perfect, right, So if you were to just throw darts um and and get a manager in each quartile. So in each quart tile, so you would say you have no skill, uh, my team and I have done this work, you would end up with a return that's about a hundred and

seventy basis points over public markets with zero skill. That's probably the illiquidity premium all asset classes like on the run off the run treasuries or e t s that are the same basket of ets the more you know traded they are. So the one seven is probably first off, you know, a liquidity premium one seven if you have no manager skill would be something that you would not

want to leave on the table. But if you even have moderate skill, where you would select instead of the five, but you were able to select out of quart tile one, in two and out of quartile three and four, the returns quickly approach four hundred basis points over public markets.

And then if you have higher skill. Again this you know, I'm not saying this is easy, but if you're able to select of your managers in the top quartile in quartile two, in quartile three, and then ten percent in quartile four, the returns are about seven hundred basis points over harbor vests. Experience has been in around that range seven to eight hundred basis points over public markets. Vanguard being conservative, we we believe the illiquidity premium will drop.

It is averaged in the past about three hundred basis points, but let's say it's half of that at one five and close to that. No skill and of harbor vests can do even half of what they have done in the past and and are just able to get slightly better than manager selection um. Our forward looking estimate is our investors will get between three and four hundred basis points, are three to four percent more then public equity, and that's going to be very significant in this low return world.

Happen to listen just recently to interview with Jack Brennan, and you talked about the sixty forty portfolio, and I share your concerns in Jack's concerns like where are returns going to come from? And so to be able to add three or four percent over public equity and funded from public equity, we think that that is extremely prudent for investors to do so, no doubt, four hundred basis points gets a lot of people's attention, but there are a lot of other reasons to consider private equity. Let's

let's talk about correlation. How closely are the returns in private equity correlated to what we see in the public markets. Yeah, so the correlations and you would have to get this twofold right because the carly aans um since a lot of private equity doesn't mark, meaning they're not marked to market.

The public markets marked to market every single day, and so um, you were if you were to mark to market the assets like if you have him and and Harborfest does this and the industry does this, So you can create an algorithm or a beta to try to get what your daily marks would be. And even if you were to do that, you would see correlations below

one somewhere. Let's say you know point eight point eight five. Um, But again you and I Berry have talked a lot about behavioral finance and advisors out but was built on

behavioral finance. The fact that these do not mark and the prices are stale, and one could say that this is a fantom benefit, and I'm not disagreeing, But if you were only to price the total stock market or the SMP five hundred every six months on the lag, I believe investors would do better because a lot times, we're reacting each and every day, um to what happened yesterday, and does that really matter when our horizon is twenty

forty years? So we believe that this will provide diversification and behavioral benefits because of how private equity works, right. The advantage of homes are that you don't get a price every day, and we're recording this the day after it looked like the markets we're gonna be off two and on a day when the markets have bounced back one percent. That sort of volatility can easily distract investors from the long term. So let's stick with private equity

and long term. Given how expensive public stocks are and by many measures we are at the upper range of valuations, private equity multiples have followed along and PE is uh about as pricey as as stocks are. More or less, it's it's a rough estimate. What are the concerns about private equity multiples being as pricey as they are today? Yeah? I think you're set up there. Barry is correct. Public equities are probably in their you know, top, and private

equity has followed um. But I also think that somewhat misses the point we you know, we do not believe markets have an expiration date. You would have said public equity and private equity were overvalued. In they've found on more than double UM. We have found that people that market time markets UM. Really. A lot of people get celebrated for calling the top and ninety nine, or they

get celebrated for calling the top and O seven. But I'm looking at you know, I'm looking at charts of my SMP five hundred at Vanguard and the private equities. If you were the worst market time or ever and you bought in March with two thousand UM, the harvardst Fund for that vintage was up ten and a half percent, and the US equity market over that time horizons up three point six. So let's say like the ten to

fifteen year return off of that same thing. You know, if you bought at the top of O sight UM. You know, investors are I I think the connectrum here is what do you do? You you take money off the table and put it in sixth income instruments that are yielding you know, somewhere below one and a half percent.

And so market timing has proven to be UM. You probably more investors create more bear markets on their own and opportunity costs by using simple metrics like valuations to try to call the tops, and so we would advise against that. The second thing I would say, Verry, we also talked about this will be funded from public equity. So if you are sixty forty, you're not really increasing the value at risk or the risk budget of portfolio. You would be moving that sixty down to forty two

and putting it in private equity at eighteen. And so we would do that all day. Whether it's high valuation, medium valuation, or low valuation, it makes a lot of sense and you're locking in a longer term time horizon for that portion of the portfolio. Have you considered other types of private investments, things like venture capital or hedge

funds beyond private equity. Yeah, so maybe I could walk through what is in this offer because it actually is a very diversified offer that we have built for our investors. Um you mentioned some of them. So this will have diversification of stage, so it will have venture capital within the harbor Best vanguard offering, the growth equity, and venture capital growth equity as a later stage venture. Uh. This portfolio will have somewhere around twenty to growth equity and

venture UM. It'll then the remainder of that will be in buyouts, which are traditional leverage buyouts. Those are more seasoned companies, more mature companies, So you do get a lot of diversification of stage UM. You'll have geographic diversification within here. So think of this as the total stock market if you will, of private equity. It'll be globally diversified, stage diversified like in the in the public markets we use growth and value and large it's small. Uh, this

will be geographically diversified. It will have venture capital to have buy out, it will have primary investments, secondary investments, UM, and direct co invest So it is a real turn key solution that at the end of the day it will have you know, six to eight hundred operating companies.

And that would be hard for any investor that's let's say under two billion dollars to try to replicate because most of these managers are very specialized inside of hard vest, right, so uh, what what makes a great venture capital manager might be different than an Asian buy out manager. And so this will have thirty to forty general partners inside with seven operating companies, so very hard for any investor under let's say two billion dollars to kind of replicate

this offer. So it is very well diversified. So that number of companies under a variety of managers, under a variety of sectors. It leads me to ask the question, are you going to run into any capacity constraints if you ramp this up? How big can this scale at Vanguard? Can this be a trillion dollar line of business? Yeah? I would say maybe address that two ways, one um and maybe we'll get to the fees of private equity later.

But let me address that a little bit here. Harbor Vests and the general partners that they work with are mostly compensated on performance based fees UM. It's known as carry in the private equity space, and so the economics to them really start to accrue once they hit a hurdle rate above eight per cent. The management fee that they get pretty much just covers the operating costs of

what they do. So they do not want to give away capacity that they do not believe they can source without returns that are double digits and above double digits, because that would not be good for their business. So they watch capacity both at the general partner level and at harbor best level. Uh. They they it's probably one of the things they are you know, obviously since the economics are tied to that, they're going to watch that

very closely. Um. So we have a runway with them, and we think it's a you know, it's an intermediate runway. But if we do well here and we are able to democratize the sasset class um, I would say very much like we started with one active manager, the Wellington's group, uh, and now we have close to thirty active managers. So we are continuing and will continue to think about do we need manager too and then manager three? And we feel we are very well equipped to source a second

and third manager when that time comes. But together harbor Vest and Vanantgard are looking at capacity very closely. So let's put some flesh on on those numbers, on those fees. I'm assuming when you talk about, you know, just the cost of of of administrative expenses on a fund, that's gonna be some and private equity obviously much more expensive than managing an e T F for or an index. I'm gonna guess that's going to be about fifty basis points.

And then that eight percent uh, that's a pretty good long term SMP five return number. Their fees are their out performance over that eight percent? Am I getting that more or less right? That's right. The carry does not start to kick in until a return hurdle the percent, And so that's why most private equity managers are shooting for you know, fifteen to twenty gross returns and and and the best ones have been able to do that. And that's where the economics really lie. And so I

think it gets back to aligned interests. Right when most of the feast sack is performance based and above some hurdle, everyone is operating under the same incentives and so um you know that that that makes private equity a very aligned UH investment and asset class to client outcomes quite interesting. You mentioned you want to be diversified globally in terms of the investment. I'm assuming that that means everywhere around the world. What about the investors? Is this the same?

Is this US only or is this going to be open to global investors? So today we're starting in the US, just like we're staging this out by clients segment and working um you know where we are mostly working with qualified investors and the regulation that's here. Eventually we will you know, try to move this down market to main street US investors, and eventually we are looking at how we could utilize this in some of our um non US offerings, whether it be single fund solutions or whether

it be in our advice outside of the US. But again no timelines on that, but that is again probably where we will be at some point in the future. Interesting, and you had mentioned you were working with advisors on this. What do you think the process is going to be like before this reaches retail? Is this going to be you know, a long process or do you think you're going to get there sooner rather than than later. Um, I mean our hope is to get there sooner rather

than later. You know, we talked earlier about a sixty forty portfolio. I mean, I think the main street investor, let's just take a school teacher and nurse, you know, who is saving diligently for retirement. UM. I don't know where the returns are going to come from. I mean, most of the fixed income investments are below inflation, and so you know, the sooner we can get private equity into main street investors, and where we are the allocator

of it, and we do it in a thoughtful way. Um. I think it will have long term compounding advantages for these investors who needed the most, who are saving diligently, doing the right thing, saving with a long duration and just hoping to get real returns in retirement. There's no real reason to save. Um. You know, saving is a deferment of future consumption, and if you're saving and getting a negative real return that that really isn't a trade

off that most people you know would welcome. And so we're trying to make sure that we can generate real returns for investors saving for retirement. So all of our energies and efforts are on the send. I just don't have a timeline, so let's stick with retirement. Is this better suited for qualified tax DEFERD accounts for one case? And on IRA's versus traditional portfolios? And how might this fit into a target date fund? Yeah, I would say

both set of investors use it well. I know you work with high net worth families, Barry, and I do it well. I work with a lot of family offices and high net worth taxable clients, and a lot of clients think about after tax returns. UM. Not to get too technical, but this is a good portfolio for tax and wealth and estate planning. Uh. It follows a J curb, which means it has some early year losses which are

valuable to high net worth families. And it's a great estate planning because you can actually get assets out of your estate at let's say X, and then fifteen years later they come out hopefully at two to two and a half times X. So we do see there is a very very popular private equity strategy in you know, some of our high it worth trusts and estate planning clients.

On the other end of the spectrum is just main street investors who are saving in a target retirement funds and then for target date funds which would be in a defined contribution plan um where Vanguard would you know, obviously do the multi asset class portfolio construction and the allocation and the rebalancing um. And these are long duration investors. Typically they have a thirty year investment horizon and then

maybe a fifty to sixty year life horizon. And the other great thing about the rfs is we know exactly when they're going to retire and when they're going to shift from accumulation to decumulation and retirement income. So we could have a private equity glide path um that that we mentioned earlier. Let's say you have fift to private equity when you're third of years away to retirement, and we just stopped investing in that as you approach five

to ten years prior to retirements. So when you start retirement income, private equity lands at zero O. So we we see it as a perfect place um for both ends of the spectrum and really for all investors who are looking to have real returns. Quite interesting, So let's talk a little bit about investor appetite. How strong is

the demand for this sort of investment from the public today. Yeah, I have the investment demand for private equity both on our launch, but private equity in general has been setting records. You probably read in the in the press. Fundraising in nineteen twenty and and so far in twenty one has just been off the charts. One could argue at cyclical, or others could argue at secular. I'm on the secular

side of this um. You know, we do see that some investors are lead being the edge of you know, progressiveness, and so you see the top endowments and foundations and sovereign wealth funds have been in private equity since the early ninety nineties. They've increased their allocations. I think this is the rest of the market catching up Verry, so the demand is quite strong. I I do not see

it as cyclical. We've been through three of the largest bear markets in the market's history, when you look at the Internet tech tech bubble, and then the a O nine global financial crisis, and then the quick flip in COVID, and yet you continue to see private equity grow. Uh. So I believe this is structural, and I believe it's because of the investment case, both on diversification and what it can do to improve outcomes on performance. So I

do not see this as being cyclical. I would be shocked if five and ten and fifteen years that private equity is not larger than it is today. Interesting. So there's a quote, and I think it's yours that that I want to share. Quote. Restrictions on who can invest in private equity should be based on investment horizon and not income or wealth unquote. Discuss Yeah, So I think the current regulatory has a lot of merit right now.

The gates to get into private equity are wealth and income, and I think it does have merit, And I think the regulators really do care about investors, and they care deeply about investors, and they would argue that these investors could afford h to lose assets when they have this

type of wealth and income threshold. But I would argue, let's let's just say you take someone who is a high spend or someone who's spending eight or nine percent of their portfolio, whether it's just a high net worth client or an entertainer or a sports figure, even if they have ten million dollars and they're spending a lot of money, I would not recommend private equity to that.

I mean, it is an ill liquid asset UM and and so I really think it's it's much more appropriate to think about what is the horizon of the investor or? Um is the an asset being managed by a fiduciary. Uh So you know what we talked about target retirement funds or our advice at Vanguard, we are managing those assets and we would rebalance those assets. So I think when it is professionally managed and it meets the time horizon and the investor is in accumulation or slight accumulation,

that's where I would put private equity. But if someone walked in and they had, you know, fifteen million dollars and making a million dollars in a year, but they were spending two or three and you and I bury no clients just like that, uh what they would qualify, But I would not put private equity in their portfolio. So I understand why wealth and income really around those

clients could afford to lose it. But if you take a step back from that, um, I think time horizon, whether you're the accumulation or decumulation, and whether it's professionally managed by a multi asset class professional, would be the real gates of prudence as opposed to just wealth and income. That makes a lot of sense. The illequidly premium only works if you don't need to tap into that capital

for that entire lock up period. Um. But I'm sure there are pretty substantial penalties for getting out of a private equity investment early. How do you manage that if someone's circumstances change and they need the cash sooner versus their original plans. Yeah, I think there there is a secondary market barry that is growing and getting closer and closer to fair market value. UM. I would say it's

like any other asset class we've seen, including ets. If you're trying to sell out because the market is under pressure or contagion, UH, you should expect a large discount like we saw in O eight oh nine and during in COVID. Even in high quality fixed income, you see

discounts under stress. However, if if your circumstances changed and you just want to get out of private equity and it's not in concasion, and you want to do it at you know, over time, like in a quarterly or semiannual a lot in the secondary market as accommodate windows where you can sell your private equity back, and the discounts are not that extreme, uh, if you're doing it in the qualified times that the secondary market allows liquidity events.

So I would say it's you know, it's twofold. If you're selling because of market concasion or in market stress, expect a large discount like you would in most of their asset classes. If you're doing it because of non market related events and you do it in the windows that are allowed, H, the discount will still be there. I want to be very clear, UM, no different than trying to sell me disciole bonds or corporate bonds. UM. But but it would not be that detrimental. But it

is clear. We want investors to understand that they are ring a long term investment and hopefully there's some circumstances do not change that would warrant them selling it. So that's one of the unique challenges of private equity versus you know, playing vanilla stocks and bonds. What are other challenges that are unique to this asset class. I think

the other challenges are manager selection and manager access. Most of the top managers are filled over subscribed, and so for you are or I Barry or even you know, if you're on sit on a committee of an endowment, if you're going to start private equity today, the list of general partners that you will get access to is probably a very small list, and it's probably maybe not

the top quartile list. And that gets back to why we went with harbor Vest thirty eight years of doing this UM and and by being an investor early and consistently, access is granted to those who have been there first and who have been there insistantly. So I think it will be a challenge for someone who is entering private equity today to get top quartile managers unless they're working with someone like Vanguard or someone like a harbor Vest, because access will not be there if you try to

just you know, do this on your own. And if I recall correctly, Vanguard has something like thirty million clients. Is that number about Riot? That is right? Yeah, that's right, Barry. So you know a lot of times people look at our size and a U M. But I would really direct you know, the a U M is you know, we are just the professional steward of thirty million investors.

It's their assets, They own the assets. We are managing those assets on on the behalf of these investors thirty million who have entrusted us to do well for them. So clearly you have the expertise in terms of custodying assets and reporting and doing the performance reporting as well. But private equity seems like a unique set of I don't want to say nightmares, but it's so complicated given how money is not only placed but drawn down over time time and investing um in funds as needed as

opportunities come along. What were some of the real complications of setting up the back office of private equity when you're working with Vanguard and Harbor Vest. Yeah, I'm glad you asked that, Barry, because a lot of times the focus is all on the investment and performance and the diversification and the outcomes. But you are correct to the client experience and how this works is not as simple as buying an ep F for a mutual fund um.

And we spend a lot of time and technology dollars um to make sure that this would you know, not only would the investment experience be world class, but the client experience would be world class. So we put a lot of time and energy and effort to make sure that the interface and how the capital calls work UM. And how everything now being digital online really helps improve

the experience for clients. So not only do we we believe we will have a world class investment experience, but we believe we will have a world class client experience UM. And I think it's again, why you know, thinking about it more as an advised part of an advised multi asset class where we are moving all of the money around, whether it's rebalancing their capital calls, certainly self directed ultra high net worth clients who are used to this, are

used to how this works. Um But I think in an advised capacity, whether it's through our o C, i OH, our personal advisor services, or maybe one day in a TRF, we can alleviate a lot of that mechanical cash flow capital call, moving it from public markets to private markets and back. And I think that will only improve the experience of clients. They won't don't see one nab A one one turtle return of all their investments rolled up, and I think the experience will be enhanced from that.

So I have a few questions left before I get to my favorite questions, and let's stick with Vanguard. I haven't heard many of your competitors looking into private equity as an mass asset class for their investors. What is it about Vanguard? What do you bring to the table that makes you so uniquely suited to do this? You seem to be the only large asset manager that's looking to forget democratizing stocks. You're looking to democratize private equity. Yeah.

I think that's a student observation, Verry. I think it gets back to our roots and our mission and why Vanguard was founded. Um. No, indexing was around before we started Vanguard. I mean, it was an institutional you know, you know, Samsonite and well sparked go. So indexing was around, active management around, and so Vanguard's whole purpose and mission was to take you know, institutional investment offerings that have served these large asset pools well down to main street,

mom and pop investors. So I think that's probably why you see us trying to democratize or equal access this too investors who need it the most. Obviously, sovereign wealth funds and endowments have been very well served by private equity, and they don't need Vanguard necessarily to do private equity.

And so our goal and our mission from our founding was to make sure that the little person, and you know, the mom and pop investor, the main street investor, was on a level footing with the largest sovereign wealth funds and the largest endowments and foundations. So I think this plays right in our entire routs and our mission, in our history. So I love this quote of yours on this this basic concept quote. It took us thirty five years to do this on indexing, twenty years to do

it on active funds. So maybe twenty years from now, private equity and its access to world class managers for the average investor will look very much like indexing did over the course of nineteen seventy to Yeah, so I think that's exactly right. That is our hope and that's our aspiration. When I arrived at Vanguard in it's hard to believe indexing assets were around eight percent of mutual

fund assets UM, and so it did take quite a while. Uh. You may remember, you know, indexing was called on an American UM. The advisor community did not want any part of indexing because the value probably Let this gets back to some of the work we've done on advisors alpha the value proposition of most advisors where hired me and I'll perform, you know, outperformed the index through tactical allocation

or managers selection. And so to see, uh, you know, the diffusion of indexing over the last twenty years has been amazing, and you know, we hope and we you know, think that this would be the right thing to do, uh, to try to follow that same template for private equity for main street investors. So let's use that template and and look forward ten or twenty years from now when you're looking at the ensuing forty period, what would be

your measure of success for this project? What metrics are you going to look at to be able to make the determination? Hey, this was every bit as successful as indexing and active management was in the earlier iterations of Vanguard. Yeah, so I mentioned a couple of times. Growth and cash flow has never been Vanguard's mission. We believe that growth and cash flow is an outcome of serving investors well

and serving them prudently. So my success metrics would be that the performance comes through somewhere like we indicated three to four paces points over, it's provided diversification, and that investors who need private equity the most, And I would say that those are those who are saving for retirement, those who do not have access to it now have

access to it. And if those things three things hold good performance, good diversification, good client experience and access is granted, we would we would expect our share of the private equity market UH to look quite large. But again the goal is not to have van Guard be a leader in private equity or to build assets or to take on growth. We think that would be an outcome of in serving investors very very well, and investors typically vote

with their feet, and that's what we have seen. It's a smart population and we think it's an outcome of being served very well. Quite interesting. I know I only have you for a limited amount of time, so let's jump to our favorite questions that we ask all of our guests, starting with, UH, tell us what you've been streaming during this period of work from home? What are you watching on Netflix or Amazon Prime? Or what podcasts are keeping you entertained? Yes, I think kind of new

early on. My My brother is in internal medicine and runs the I C You here at Penn, So I kind of knew early on that this might play out longer to stay from home than than most And so I decided to revisit some of the all time classic or at least, in my opinion, the all time classic TV series for a second and in some instances a third. But these are big time commitments, So things like Breaking Bad, Uh, The Americans, and Homeland I have rewatched and I've enjoyed

every second. So I went back to at least what I would call as some of the classics. But but but as a big time commitment, and I thought I would have the time to do that, and I'm glad I did that. Quite interesting. Tell us about your early mentors who helped shape your career. Yeah, I kind of breaking into three stages of my career. Very first and

foremost are my parents and my grandparents. My grandparents were very involved and my parents were very very selfless, I think, give me unconditional love and support and just were amazing role models. And I think that was the foundation of all of my good luck that followed from that, and if I moved from there, I would say my my first experience outside of business school, I was hired by Harold Katz and Cat's family office, which was run by

Terry gabrielle chief investment officer. This guy was a c f A from like the seventies and um, you know, told me right away a three years to get the cf A. So I got the c f A at a very young age and he taught me everything. I you know, just sat at his hip and had a world class experience on how to value companies, UM forensic accounting and to be able to like just rip through a company and figure out what it was worth. So both Harold Katz and Terry Gabriel I think we're the

early part of my career. And if those two things aren't lucky enough, at thirty two, I ended up at Vanguard, and and uh, you know, just had such a luck to be able to work with Jack Bogel closely. Um, you know, Jack Brennan and I worked on many things together. We're still in contact with him on a pretty regular basis. And and and then Tim Buckley, who's our current CEO. I've worked with him, you know, pretty much since I

landed at Vanguard. I couldn't find three more better mentors if I tried, and the three of them, so I've just been very blessed. Yeah, that's that's quite a murderous row of of people to help guide your career. Uh, let's talk about books. Tell us some of your favorites and what are you reading right now? So some of my favorites, and its fried back to my what I'm streaming.

I've read you know, probably a dozen times, would be too by talib Fooled by Randomness is probably my favorite, and the others Anti Fragile highly recommended for those who have not read them. Uh. Then then Michael Lewis is the undoing project. It's it's really about the special relationship between condomen and diversity and all they've been able to accomplish around human behavior. And I'll stick with you know,

Condomen and Diversity. Uh. Their book Judgment Under Uncertainty is still one of the classics of all time as far as currently, um, you know mostly what I read. You know, it's just so much to stay on top of the investment news and the news commentary. So I'm very grateful for you, Barry, you doing an aggregation each night. I look forward to, you know, getting your email, and you know, there's so much news out there, So I would say on a daily basis, I'm using some of the key

aggregators always use yours as first and foremost. So the daily news stream is a lot, and I saved the books for when I'm you know, have some downtime on summer vacation over the holidays. Really interesting and thank you for uh those kudos. What sort of advice would you give to a recent college grad who was interested in a career in either investment management or private equity, John

would I would tell him to go for it. I see so many opportunities on the horizon in investment banking, and private equity or you know what you do there as a wealth advisor. I see all three being win win win career opportunities. You know, it's a win first and foremost for the clients that you serve, and I think that makes you know, you feel really good about what you're doing every day that you're actually putting your

clients first. But also personally, it's it's a profession that if you do it well, the rewards would come to you and your family, and that's you know, that's always a good thing. And then lastly, it's a continuous learning. Right The markets are always changing, uh you know you are. The headlines change daily and weekly. So what I'm learning in today is so much different than I did last year and year before that. So to me, these are not zero sum game activities, but these are positive sum

game activities. So I would highly recommend anyone thinking about going into the investment for wealth planning world. And our final question, what do you know about the world of investing today? You wish you knew twenty five or so years ago when you were first getting started in the nineties, long before you ended up at Vanguard. Yeah, I wish I knew today and had a better way to track

opportunity costs. Um. And what I mean by that, Barry is you know, um, we we often only judge what we did, yet we don't judge what we could have done. And you know we mentioned as a couple of times. I think more bear markets have been created by investors own beliefs in what the future will look like than actual bear markets themselves. And if we actually kept score personally or individually of what we did versus what we should have done, I think the gap is going to

really surprise people. Um. Also, the opportunity costs of of of comfort. Right, Yeah, we're talking about where bonds are today. Under no one wants to lose in COVID or in GFC, but if you have a thirty year horizon, didn't matter over that one or two years. So we pay a huge opportunity cost for comfort if you have a thirty year horizon or a twenty year horizon. I just would ask everyone to examine the opportunity costs they are creating

for themselves for such comfort. Right. And you know, the the equity risk premium has been about five basis points over bonds probably likely to hold, if not be above that. We've talked about private equity being three to four over that, so maybe eight to ten over bonds and so yeah, we are risk averse creatures. We hate loss, and I think that's nap troll to hate loss and all the loss a version. But just do it with eyes wide open on what the opportunity cost you are creating for

the comfort of short term volatility. Huh makes sense, Fran, This has really been very fascinating. Thank you for being so generous with your time. We have been speaking with Fran Kinary. He is Vanguard's global head of private Investments. If you enjoy this conversation, well be sure and check out any of our previous three hundred and fifties something prior discussions. You can find those wherever you feed your podcast,

fix iTunes, Spotify, a cast, wherever. We love your comments, feedback, end suggestions right to us at m IB podcast at Bloomberg dot net. What Fran was discussing the daily reading list that goes out every day at seven am. You can sign up for that uh at Ridoltz dot com. Check out my weekly column on Bloomberg dot com slash Opinion. Follow me on Twitter at rid Halts I would be remiss if I did not thank the wonderful team that helps put these conversations together each week. Maroufal is my

audio engineer. Harris Walt is my producer. This week, my project manager is Tracy Walsh. Michael Batnick is my head of research. I'm Barry Rich Halts. You've been listening to master some in Business on Bloomberg Radio