How To Invest In Private Equity: A Step-by-Step Guide

Imagine if $5 million in cash fell from the sky and landed at your feet. You’d likely think about what to do with this windfall—possibly, after a few luxe purchases and a donation to your favorite charity. Investing in publicly traded companies like Apple, Nike, or Uber is an option. Another, is investing in private (and occasionally public) companies through private equity (PE) firms. 

“Private equity” is an umbrella term that covers different types of private investments, funds, and firms, as opposed to those trading on a stock exchange. While buying shares in publicly traded companies is easier and often less risky for the average investor than investing in private companies, that can be more than offset by the historically high returns of private equity funds.

How does private equity work? 

There are the three basic components to private equity: 

1. The private equity firm.PE firms

   , such as KKR, and the Carlyle Group, create and manage the equity funds, and later make equity investments. 

2. The companies receiving investments.

   Companies, typically private but occasionally public, receive capital from private equity firms, perhaps as a leveraged buyout or an investment. The women’s shapewear company Spanx and Bumble, a dating app, received PE investment over the past couple of years.

3. Investors.

   Investorscalled limited partners (LPs) fund private equity firms. LPs provide the capital for the private equity funds used to make investments. If a private equity firm wants to buy out a company for $5 billion with the goal of later selling at a profit, much of that $5 billion comes from the limited partners.

Unlike publicly traded companies, private equity is not regulated by the U.S. Securities and Exchange Commission (SEC). 

Who can invest in private equity? 

Most investors in private equity firms are large institutional investors like trusts, pensions, and university endowments or high-net-worth individuals who meet the SEC’s accredited investor guidelines. Those require that individuals have a net worth of more than $1 million (alone or with a spouse) and an annual income of more than $200,000 ($300,000 with a spouse) in each of the past two years. Institutions with more than $5 million in investments also can qualify. Ultimately, who can invest depends on the type of private equity and approach to investing. 

Investing in a firm

LPs can invest in private equity firms such as Bain Capital or Blackstone Group, which create and manage the PE funds. Investors can find potential private equity investment opportunities through business connections or an investment manager. 

Each private equity firm has its own minimum dollar requirements. The larger firms have multiple funds spanning various industries—like healthcare, technology, or real estate—while smaller boutique firms might have one or two funds focused on a sector, such as consumer goods. LPs can expect their money to be tied up for five to 10 years, at which point they will (hopefully) be repaid their capital and profit—if  any.

After a successful investment is completed, the private equity firm typically receives 20% of the profit while the remaining 80% is distributed to those who invested capital. If the deal turned out to be unsuccessful with zero profit, LPs have limited liability and cannot lose more money than they invested.   

Buying investment products

Investors can also indirectly buy into private equity through products like  publicly-traded PE stocks, exchange-traded funds (ETFs), and fund of funds, which invest in private equity. In this case, investors don't have to meet SEC thresholds, so this option is possible regardless of an investor’s income or net worth. These options have far lower required investment minimums versus traditional private equity firm investments.

How can accredited investors invest in private equity? 

Accredited investors conduct research on potential PE investment opportunities through professional contacts, or by talking with their investment managers and advisors. When these LP investors choose an investment opportunity, they commit and contribute capital that is transferred to the fund for an ownership stake in the portfolio company.  

What is the minimum investment required?

The required minimum investment is often $25 million, but can be higher or lower. Some private equity firms have lower minimums of several hundred thousand dollars. 

What are the fees and expenses?

LPs typically pay a private equity firm a 2% annual management fee based on the assets being managed; and, there might be additional fees to cover organizational, administrative, and legal costs. In early 2022, the SEC proposed reviewing private funds’ gross and net fees to make transactions more transparent to investors.

How can non-accredited investors invest in private equity? 

There are opportunities for non-accredited investors to invest in private equity through PE-based products like: 

• Stocks.

  KKR, Blackstone, and The Carlyle Group are a few of the private equity firms that are traded publicly on the NYSE or Nasdaq. There, investors can buy their shares just  like any other stock.  

• Fund of funds (FOF).

  This is a pooled fund that invests in private equity firms. There may be lower net worth requirements and a minimum investment, usually ranging from $100,000 to $300,000. 

• Exchange-traded funds (ETFs).

  Private equity ETFs track an index of publicly traded companies that invest in private equity. Invesco’s Global Listed Private Equity ETF, for example, invests in Goldman Sachs, BDC, Blue Owl, and Onex, among other private equity firms. 

• Equity crowdfunding.

  Investors of all incomes can invest capital in a variety of businesses for equity through online platforms like Fundable, Wefunder, and SeedInvest, which are regulated by the SEC. 

What are the potential benefits and risks of investing in private equity firms? 

Investing in private equity can be particularly risky, but there are reasons why some individuals and institutions continue to invest in the private sector, and others choose to only invest in publicly traded stocks. 

Potential benefits of investing in private equity 

• Greater returns.

  Private equity historically is a higher performer, with higher returns than returns in publicly traded stocks. 

• Company building.Venture capital (VC)

  , a type of private equity investment, can help early stage tech startups launch, build, and grow. Examples include  Google, Space X’s Starlink, Twitter, and WhatsApp.

• Supports growth.

  Similarly, growth equity, a type of private equity that invests greater amounts of capital, allows midsize companies to expand and grow faster. 

Potential risks of investing in PE firms

• Illiquidity.

  Unlike stocks, which are convertible to cash, private equity investments are typically illiquid. If an LP has a financial emergency and wants to liquidate funds, they usually can’t touch private equity investments for five to 10 years. 

• Opacity.

  Private equity investments don’t have to comply with the same set of federal regulations as publicly traded companies, so there is limited transparency.  

• Ethical impact.

  PE firms that do leveraged buyouts often cut costs in target companies in the drive for returns. This can result in job losses, inferior products, communities without local resources like newspapers or hospitals. 

What are other alternatives to investing in private equity? 

There are a number of alternatives to investing in private equity, also with varying levels of potential risk and returns. They include:  

• Stocks and mutual funds.

  Buying shares in publicly traded stocks and funds can be risky, but investors aren’t required to pay the high minimums required in private equity investing. Investors can invest nearly any dollar amount, especially with newer investing apps.  

• Government bonds.

  Issued at a fixed rate of interest, government-backed bonds are considered a safer investment than publicly traded stocks or private equity. The trade-off is lower potential returns. 

• Crypto.Cryptocurrencies

  like Bitcoin, Dogecoin, and Ethereum, are highly volatile and risky. While this new technology has avid investors and is gaining mainstream acceptance, there are industry detractors critical of crypto, mainly that it doesn’t produce a product or have intrinsic value. 

The bottom line 

Investing in private equity is for large institutional investors and accredited investors that have high incomes and net worth—over $1 million. Not everyone, however, has the financial means to do that, given the typical minimum investment is typically $25 million. In exchange for higher historical returns that PE offers, investors must be willing to tie up their capital for as long as 10 years. 

Non-accredited investors can invest indirectly in PE by purchasing stocks or ETFs, for example, that own shares of publicly traded PE firms. Funds of funds and crowdrowdfunding also offer investors a way of having a stake in PE.