Podcast

How Do I Decide Whether Private Markets Fit My Portfolio? with Michael Sustarsic, CFA® (Ep. 14)

“How do I decide if private markets are the right fit for my portfolio?” If you’re considering private investments, tying up money can feel like a big trade-off when you’re unsure what you’ll gain. An attractive investment idea alone doesn’t explain how it fits your cash needs or the rest of your portfolio. For some investors, the added complexity may make no private-market allocation a reasonable choice.

In this episode, Jon Meyer speaks with Michael Sustarsic, CFA®, Managing Director and Head of Private Markets at Wealthspire Advisors, about portfolio fit, liquidity, and diversification on Mastering the 360 Mindset. Michael explains how private investment funds work, how commitments can be planned across years, and how his team examines the ways managers create value.

Meyer and Sustarsic break this down into the following discussion points:

Are Private Investments Worth the Risks, Costs, and Complexity?
What’s the Difference Between Drawdown Funds and Evergreen Funds?
How Can I Plan My Private Investment Commitments Over Time?
How Do You Evaluate a Private Investment Manager’s Performance?
Why Is Diversification Important in Private Market Investing?
And more!

Watch us on YouTube at https://www.youtube.com/watch?v=hqBzLcc48_o

Resources:

Connect with Jon Meyer:

Connect with Michael Sustarsic:

About the Guest:

Michael Sustarsic, CFA® is the Managing Director and Head of Private Markets for Wealthspire. Michael leads Wealthspire’s Private Markets group. Within this group, he is responsible for sourcing and performing due diligence on investment opportunities across private equity, private credit and private real assets. Michael is a member of the firm’s Global Private Markets Group and Research Forum.

Prior to joining the firm in 2015, he was a Financial Analyst at General Growth Properties and a Research Analyst with Caldera Investment Group. Michael graduated from the University of Chicago with a BA in Economics and was a star point guard on the basketball team. Michael is a CFA® Charterholder.

Transcript

[00:00:00] Jon Meyer: What I’ve seen in portfolios from prospective clients is that they basically had an investment theme. They took one big swing and put all their budget for private equity in that one thing, and a lot of times it failed.

[00:00:13] Michael Sustarsic: We see this a lot, too, where somebody has a portfolio and maybe it’s been, like, one big rifle shot, uh, that they take, and it’s a very thematic bet.

[00:00:22] Michael Sustarsic: At the end of the day, it- it’s kind of a binary outcome. It, like, really works or, or it doesn’t work at all.

[00:00:30] Intro: Welcome to Mastering the 360 Mindset with Jon Meyer from BGM. Join us as we explore ways to make the most out of your wealth, health, and time, unlocking opportunities for balance and lasting success.

[00:00:43] Intro: With insights from Jon’s years of experience and guest experts, you’ll gain the tools to design a life that works on your terms. Now, onto the show.

[00:00:55] Jon Meyer: All right. Thank you for joining us today for another podcast from [00:01:00] the people here at BGM360. My name is Jon Meyer, and I will today be talking to Michael Sustarsic.

[00:01:07] Jon Meyer: I will introduce Michael for just a second, and of course, Michael, you’re always free to add to this if you want. Michael is the managing director and head of Global Private Markets for Wealthspire. And today, I wanna talk to Michael more about how private markets fit into portfolios. But Michael, I’ll let you take it from there.

[00:01:25] Jon Meyer: Maybe you wanna do just a short introduction of who you are and, and your world.

[00:01:30] Michael Sustarsic: Yeah. Hap- happy to, Jon, and, and appreciate you having me on and, and happy to be here today. So a- as you mentioned, title is, is managing director and head of Private Markets at, at Wealthspire Ad- Advisors, formerly Fiducient Advisors.

[00:01:43] Michael Sustarsic: Been with the organization a little over 11 years now, and in this role as, as we’ve continued to grow and, and, and become more sophisticated in what we’re doing in the private market side of things.

[00:01:55] Jon Meyer: I love it. Well, I’m, I’m looking forward to this conversation because I’m [00:02:00] approaching it from the standpoint of a financial advisor that’s invested in public markets, obviously, for most of my career.

[00:02:07] Jon Meyer: And as private markets have become more important, I thought, “Who better to talk to than you?” ‘Cause I’ve seen you in the past on this stuff. Let’s start with a simple question, quite honestly. Why should we even care about private markets today?

[00:02:22] Michael Sustarsic: Yeah. I, I think there’s a, there’s a lot of reasons to, to care, and there’s a lot of reasons people care.

[00:02:28] Michael Sustarsic: One, they’ve made headlines more in probably the past 12 months than they had in the 12 years before that. I feel like there’s, there’s more awareness of, of what it is, how it’s getting into portfolios. And so as an advisor, being more knowledgeable on the subject and opportunities that, that might be out there, just generally what they are, is important.

[00:02:48] Michael Sustarsic: As a client and, and potential consumer and investor in the space, you wanna have an awareness around what you’re investing in and, and the opportunity set there. Now, I separate that [00:03:00] from the conversation of are they right in every portfolio? And I think there’s a, there’s a line that where we say, “Hey, they’re, they’re not right in every portfolio,” and I’m sure we’ll, we’ll get more into that too.

[00:03:11] Jon Meyer: Yeah. Well, and to that point, what is an investor potentially doing differently in private portfolios than they would be in public portfolios?

[00:03:23] Michael Sustarsic: Yeah, yeah. From, from an investment standpoint, maybe we just bifurcate the, the two spaces a, a little bit. So public markets, obviously everything publicly traded.

[00:03:33] Michael Sustarsic: You can go into your Schwab, Fidelity, whatever a- account, trade those stocks, see those, see those tickers. They post 10-Ks and, and 10-Qs and, and the information is readily and, and publicly available. On the private market side of things, uh, very, very different environment in which they operate. It’s not easy to get the information.

[00:03:53] Michael Sustarsic: They don’t have to share anything, anything publicly. The ownership structures can be very different. How [00:04:00] the, the investments transact are, are very different as, as well. So typically an investment would go through some sort of commingled or pooled vehicle into a drawdown structure and more and more potentially an evergreen structure.

[00:04:13] Michael Sustarsic: But we’ll stick with drawdown structure. That capital gets invested over time and, you know, the active buying and selling while in the public markets it takes two seconds to, to click and even less if you’re a computer doing all the work, it can take months and even quarters to actually transact in, in the private markets and, and transact at the company level.

[00:04:31] Michael Sustarsic: So the, the way information flows, is presented and, and how things are, are transacted is very different

[00:04:40] Jon Meyer: Let’s define private markets for just a second, ’cause when you were talking about that, I was thinking people may not know, because there’s really private equity, private debt, private real estate.

[00:04:49] Jon Meyer: They’re all similar to what we us- usually invest in, but can you talk a little bit about how they’re different from the standpoint of all those different titles?

[00:04:59] Michael Sustarsic: Yeah. [00:05:00] Yeah, a- absolutely. So maybe just the, the, the landscape, if you will, and, and how we separate kind of the areas of private markets that we work a- that we work across.

[00:05:09] Michael Sustarsic: That includes everything in private equity, and so we think about private equity as being, you know, buyout, growth equity, venture capital, and, and special situations. Generally, you’re owning the, the equity portion of the capital stack. In real assets, we bucket anything real estate and infrastructure in there.

[00:05:28] Michael Sustarsic: Similar to the way we think about kind of that corollary on the, on the public market side, and then on the private debt side, sa- same thing. So direct lending, asset-based financing, anything where there’s typically a hard asset or more tangible asset that can be lent against falls into that asset base.

[00:05:44] Michael Sustarsic: And then mezzanine, more kind of high yield or, or higher subordinate in the capital stack as, as well would, would, would fall into that. I think some of the other differences is, you know, in public markets investing, you’re typically always a passive and minority shareholder. [00:06:00] You know, you buy, you go buy stock of Apple, like, you’re not buying 51% of Apple stock.

[00:06:05] Michael Sustarsic: You go to public markets, like, that is the majority of whether you’re in the buyout space, you’re in real asset. You’re, you’re typically owning and gaining control of, of the investment, or the manager that you’re investing in is, is going and, and, and gaining control of, of that investment.

[00:06:22] Jon Meyer: The other thing I wanna separate, too, is how do you do this?

[00:06:26] Jon Meyer: You- now, you mentioned drawdown funds. I think for our audience, it would be good for you to describe what’s a drawdown fund versus an evergreen. But to the point, you’re suggesting that there’s different wrappers Kinda like we, in the public markets we invest in mutual funds or ETFs or individual stocks, there’s different wrappers.

[00:06:47] Jon Meyer: So can you just talk a little bit about the different wrappers too so people kinda understand the differences?

[00:06:52] Michael Sustarsic: Yeah, h- happy to. And, and yeah, and this is, you know, the, the, the financial innovation has, has been coming [00:07:00] hot and heavy in this space from kinda how you can wrap and, and how people can, can, can own investments in this, in this space.

[00:07:07] Michael Sustarsic: And so the two primary ways to do that I would say through a drawdown entity or an open-ended and, and evergreen. Open-ended and, and evergreen, typically means you can buy it and you own it until you sell it someday. And so your mutual funds, your ETFs, most hedge funds are gonna fit into that, into that wrapper.

[00:07:27] Michael Sustarsic: When we talk about drawdown funds, the process is, is very different. And so for those, you’ll make a commitment to invest, call it $500,000 into XYZ investment. You owe nothing on, on day one. Of that 500,000, probably $0 is invested on day one. As the underlying fund makes their investments, they will, what’s, you know, what’s termed as a, a capital call.

[00:07:52] Michael Sustarsic: They’ll make a capital call, and then you will send money to help them fund that investment. They’ll do that over a period of [00:08:00] what’s typically three to five years. At that point, you will have approximately that $500,000 in invested. And then importantly on the back end, when they realize an investment, so when they sell an underlying company that they bought, they’re not reinvesting that capital back into another company.

[00:08:17] Michael Sustarsic: They’re actually sending that back to you. And so that becomes a, a, a distribution. It creates, frankly, a lot of complexity in the market, but it is how most funds are, are operated to-today. It’s the, it’s the bulk of, of, of the investment opportunity set today.

[00:08:34] Jon Meyer: Should you expect, because the drawdown funds are more illiquid in some ways, are they…

[00:08:41] Jon Meyer: Should you expect higher returns there?

[00:08:43] Michael Sustarsic: Yeah, I, I think the– I think over time you’ll start to see, A, just the measurement of these two vehicles are, are different. So as we think about drawdown vehicles, typically IRR, TVPI, so total value to paid in. So [00:09:00] how much is the entire investment worth relative to how much cash have, have you contributed to it, and then distributed relative to, to the capital that you’ve, that you’ve paid into it, are the three metric.

[00:09:11] Michael Sustarsic: Those don’t equate to anything in like o-open-ended vehicle. So it becomes a little bit almost harder to, to compare just a, a one for one for one. At the end of the day, they could end up owning the same underlying assets. Within an evergreen or open-ended vehicle, there’s typically needs to be some sort of cash or liquidity buffer because there’s always the opportunity or there’s always the situation where someone in the evergreen vehicle redeems.

[00:09:41] Michael Sustarsic: No one in a drawdown vehicle can redeem. And so that creates some friction around how do I fulfill that redemption with an underlying investment base that is, that is illiquid. That can create differences in, in return on a net-net basis. But again, if we’re thinking private markets [00:10:00] should outperform, and I own mostly private markets in an evergreen vehicle and a little bit of liquidity buffer, theoretically that, that should, that should underperform the equivalent drawdown vehicle by, by some fraction

[00:10:15] Jon Meyer: Well, and just to level set, you’re not arguing that everyone’s portfolio should all be in a private equity either.

[00:10:23] Jon Meyer: Y- you tell me, but typically what, 10%, 20% on the high side, something like that?

[00:10:28] Michael Sustarsic: Yeah. Yeah. I, and I would say for some clients, like, 0% should be how much they own in, in private equity. I think as we think about private eq- private markets and generally, it adds complexity to the portfolio, whether that’s drawdown, whether that’s evergreen.

[00:10:45] Michael Sustarsic: Like, there are, there are trade-offs that exist from a liquidity standpoint, administration operating complexity, tax complexity. To bring on complexity, like, there needs to be a material benefit there. So I think, y- I think that’s step [00:11:00] one of, like, is the portfolio appropriate for it in the, in the first place?

[00:11:04] Michael Sustarsic: And then step two is, like, how do we, how do we own that? And we do think about this in a what’s my highest and best use of, of the illiquid dollar. And if we look at four decades worth of, of data, barring a quarter here and there, private equity has been the best use of, of that. And so we typically fill that bucket up first, if you will, in thinking about, okay, the illiquidity budget you have, if it’s 10%, we probably mostly wanna think about private eq- equity in that bucket.

[00:11:34] Michael Sustarsic: As we move beyond 10%, now let’s start to think about real assets. Let’s start to think about debt. Where can these be owned across a, a client? Like, debt, for instance, can be very tax inefficient, taxed at income coming off, taxed at ordinary gains. Like, is there a way to hold that in a tax-deferred account?

[00:11:54] Michael Sustarsic: And so that gets into some, some, into some more nuances on what’s maybe the best next trade-off to, [00:12:00] to have, and as we think about that too. So it, it, it’s very interesting that, like, no two portfolios often look the same, and it often is like a, a one of one for, for each client.

[00:12:11] Jon Meyer: So there’s two different paths I wanna take here.

[00:12:13] Jon Meyer: One path is to that point, do you think we are going to be in the, I don’t know, you tell me, in the next decade or two, talking about equity and debt, i.e. stocks and bonds, in the sense of just stocks and bonds, and it doesn’t matter if it’s private or public? Or is that, like, some fantasy I have? Because it feels to me like these things are converging as we see fewer and fewer public stocks out there.

[00:12:43] Jon Meyer: You know, the only way people are gonna be able to invest at some point is just to buy private stuff.

[00:12:48] Michael Sustarsic: Yeah. I… That, that innovation isn’t, isn’t slowing down, and so I think that is a world where you start to see, and you’re starting to see this on the debt side a little bit, but where portfolios themselves [00:13:00] are blended across both public fixed income and, and private or direct lending or private credit in, in some way.

[00:13:08] Michael Sustarsic: And so I think those can very much exist, and particularly as we start to think more about, like, target date funds and, and, and vehicles like that where they are professionally managed in, in some way, more opportunities out there, and as interval funds are out there. I do think you start to see more, more blending of, of that, particularly at the upper end, and I say upper end, like the largest subset of, of private companies.

[00:13:35] Michael Sustarsic: It is interesting, probably a year and a half ago, we’ve had… we had some conversations with actually the London Stock Exchange, who is, I think, pretty innovative in how they’re thinking about, like, their role and, like, how do they get more involved in, in private markets. And so there’s actually a program that they’ve, that they’ve done some beta testing on, on, they call, like, Private for a Day, and where some of these later stage companies who have a lot of shareholders, like some that want liquidity, some that [00:14:00] potentially want in, maybe the company doesn’t wanna go public for any number of reasons, but they wanna be able to facilitate an exchange for investors to, to have.

[00:14:11] Michael Sustarsic: And so that’s an opportunity where, hey, you can create liquidity for shareholders that, that want it without going, without going fully public, but facilitate a, a share transfer and, and exchange of information. And so I think that is, is one of those avenues or one of those green shoots, if you will, that lead us to more blending of, of that.

[00:14:33] Michael Sustarsic: Now, I would probably bifurcate a little bit. I think the top end of the market, when I say it’s like larger private companies, starts to blend there. I, I think there’s still probably a, a, a delta in some of the smaller companies where truly, like, the ownership structure is more kind of a controlling, a controlling owner, whether that’s founder selling to a private equity firm rather than, you know, at the larger end, you’re starting to see more [00:15:00] syndication, and have for a number of years started to see more syndication across some of the, some of the largest deals, whether it’s a few, a few firms teaming up or certainly these later stage venture companies that you’re now surpassed into, like, the trillion dollar territory where they’ve got a, a lot of owners.

[00:15:16] Michael Sustarsic: It’s not just one, one controlling owner there

[00:15:19] Jon Meyer: Now let me go down the second path I wanted to go down. To the extent that people do come in with private equity, what I’ve seen in portfolios from prospective clients is that they basically had an investment theme. They took one big swing and put all their budget for private equity in that one thing, and a lot of times it failed One of the conversations that we’ve had with you is about more of a pacing model where p- that, where people do that in tranches.

[00:15:50] Jon Meyer: Can you just talk more about that? ‘Cause I think this is kind of an ingenious idea.

[00:15:55] Michael Sustarsic: Yeah. We see this a lot too where somebody, you know, has a portfolio [00:16:00] and maybe it’s been like one big rifle shot that they take, and it’s a very thematic bet. At the end of the day, it, it’s kind of a binary outcome. It, like, really works or, or it doesn’t work at all.

[00:16:11] Michael Sustarsic: And if it’s a portfolio of those, s- a lot of times it’s very mediocre at, at, at best. As we think about, you know, the, the premium we’re trying to achieve in, in private markets is, is a structural inefficiency that we think we can capture time a- time and time again, and continue to, to build that and compound that over, over many years and, and often decades.

[00:16:37] Michael Sustarsic: And so as we think about, you know, the pacing model that, that we set up, is really like step one in just diversification and capital deployment in, in private markets. And so the crux of that model is it takes a lot of historical data around cash flows. It can take clients’ existing portfolio investments if they have private, private investments, and then [00:17:00] target allocations of are you gonna be 10%?

[00:17:02] Michael Sustarsic: Are you gonna be 20%? What is the rate of, you know, is your portfolio overall continuing to grow today, or is it kind of flat, or are you drawing from it? Important factors as we think about de- deployment there. It takes those, and so becomes very customized in, in, in that fashion, and really puts together a, a, a plan, an output for to get to 10%, we wanna commit X number of dollars annually to get to that target and, and stay there.

[00:17:31] Michael Sustarsic: And it’s really, you know, uh, most folks understand cost averaging on the public market side. I think it’s very similar to, to that. I think we see clients at times have, you know, come in or we’ll look at portfolios where they’ve put a lot of money to work in a very short period of time, so a lot of capital has been drawn.

[00:17:52] Michael Sustarsic: They’re at their target, but now they stop committing capital, and so the cash flows go up and down and up and down, and, like, your [00:18:00] allocation relative to where you wanna be goes up and down. You become very exposed to, you know, a vintage, a particular vintage year, which can be good or, or, or can be bad.

[00:18:09] Michael Sustarsic: There’s a lot that happens over the course of a, a seven to 10-year cycle. And so as we think about almost like cost average or cost averaging or dollar averaging in, it creates a, a, a steadiness into the portfolio and gets you to a point where the portfolio effectively becomes at a steady state or, or somewhat self-funding in those, in those out years.

[00:18:29] Michael Sustarsic: And so that’s really the framework that we’re trying to, to set up, and I think the- I think the psychological piece is, I don’t wanna understate it either. I think you, as you start thinking about deploying capital, like, over the next seven to 10 years, it also frames, like, these investments aren’t gonna be done in three years.

[00:18:47] Michael Sustarsic: These investments are gonna last that long. And so, you know, to think about, you know, the hot dot in private markets or kind of what’s on trend to- today, we have to be thinking, okay, what– can we [00:19:00] see out five to seven years of this theme, and is it still going to be a, a theme and, and relevant, or is it very relevant today and, and may fade into the future?

[00:19:09] Michael Sustarsic: So all of those things become, become very important. I think just to then just framing psychologically is very beneficial.

[00:19:16] Jon Meyer: That’s what I like about it, is we don’t know what’s hot year to year. I remember looking at a chart, and ExxonMobil was the hot stock, and 10 years later it wasn’t, and I thought, man, no one thought, saw that coming, so-

[00:19:29] Michael Sustarsic: Yeah, yeah

[00:19:29] Jon Meyer: I get it.

[00:19:30] Michael Sustarsic: It’s very interesting. I, I’ve seen this a few times, but if you track, like, the largest five companies in the S&P 500, like, over the decades, just how that has changed, and particularly with, like, technology coming on, it’s become, like, such a big part of it, and as the world continues to, to innovate and evolve.

[00:19:47] Jon Meyer: You kinda touched on something I’m curious about. When you’re doing your research, what kind of questions are you asking that I might not think about or a retail client might not think about? Like, what do you ask different?

[00:19:59] Michael Sustarsic: [00:20:00] Yeah. Yeah. I, I think a lot of what we do and, and maybe the… I don’t know if surprising is the right word, but, you know, the, the time that we spend with GPs or, or private equity firms that probably doesn’t get seen a- as much is probably, one, on the front end, the amount of time we spend sourcing different opportunities.

[00:20:22] Michael Sustarsic: We’re, you know, fortunate enough to have a good reputation in the market, in the space. Like, we get a ton of inbound of, “Hey, you know, we’re raising XYZ capital and, and, you know, if you have any interest in, in looking at this,” we get a ton of that inbound, just email. Very little of that actually gets to the bottom of, of our funnel.

[00:20:42] Michael Sustarsic: Where we spend a ton of time is networking, building relationships with firms. Like, not when they’re raising capital, but oftentimes years, years before they’re, they’re raising capital. I give… We could go down any number of stories here, but one, one of my, one of my favorites is, this [00:21:00] was probably seven or eight years ago, I w- was introduced to an independent sponsor.

[00:21:05] Michael Sustarsic: And so independent sponsor, they don’t have a fund. They’re kind of going deal by deal to, you know, tie up a deal, raise capital around it. We don’t really have capital for that. There’s more capital available today than there used to be, but was introduced to him. Like, there’s no opportunity there for, for us to invest today.

[00:21:22] Michael Sustarsic: We end up staying in touch for, it was about three and a half to four years. Finally, like, they decided to go raise, raise a fund. They had had a, probably one of the best track records that, that I’ve seen. They raised capital, like, meaningfully oversubscribed, and were able to, to get an allocation for, for our clients.

[00:21:41] Michael Sustarsic: And so if we didn’t have an introduction and if we didn’t know them for four years before they ever, you know, raised actual money, we might not have, we might not have been there. If we weren’t in the flow of information, then, like, we don’t have an opportunity to invest, and that is a lot of the, the work that, that goes in.[00:22:00]

[00:22:00] Michael Sustarsic: Significant amount of the time that, that we spend that, you know, may… You don’t know when something’s gonna, gonna work, but you’re always kind of planting those, those seeds for, for when it, for when it does. The second thing I, I think we spend- inordinate amount of time on is really just proving out value creation.

[00:22:20] Michael Sustarsic: And so as we look at not private equity over the past decade, but private equity and private markets over the next decade, like what do we think is different about that and what do we think is going to actually create the value and consistently create the value that we wanna have for all the complexity that we’re bringing into portfolios to, to do that?

[00:22:41] Michael Sustarsic: And so there are certain periods of time where like interest rates have been falling, multiples have, have been expanding, and it’s like you fall out of the boat and you’re gonna hit water. Like it, it’s gonna, it’s gonna work out. We’re not in that environment today. If anything, like you could, you could face headwinds.

[00:22:58] Michael Sustarsic: So as [00:23:00] simply as we can break it down, there’s really three levers for, for value creation. You grow earnings You expand the multiple, buy it 10 times, sell it 12 times, or you pay down debt, create more equity in the capital stack. Technically, like, you can get an okay return if all you do is pay down debt and u-use cash flow to pay down debt.

[00:23:21] Michael Sustarsic: You know, you, you create equity value at the end of the day. We really focus on one, and think if the earnings growth happens, if we’re building higher quality companies, they’re gonna trade at a better multiple than, than when they were bought. We don’t need to rely on financial engineering or, or leverage to really create value.

[00:23:40] Michael Sustarsic: And so how are firms going through and creating not just equity value, but enterprise value? And so that combines both equity and debt in the capital stack. And so we wanna see enterprise value creation being, being made. That means we have to grow earnings. That means hopefully we’re growing earnings, we’re creating [00:24:00] a better company that will trade at a premium in the market, and then we don’t, we don’t need to rely on that debt piece in order to, to, to, to see a path to, to value creation.

[00:24:12] Michael Sustarsic: And so we go through, like, painstakingly to, to really go prove that out. We do it qualitatively, like walking extensively through case studies. We will then go call the CEOs of those businesses and ask the, “Hey, what did XY… what XYZ firm do to help you grow this business?” And so we get a lot of information that way.

[00:24:33] Michael Sustarsic: We’ll go through and quantitatively rip that apart. And so getting the operating level metrics from start to finish on a particular portfolio company that, that a firm invested in, where was the… Like, what did you buy it for? What was the value? What were the revenue and earnings then? How have we seen margins change over time?

[00:24:52] Michael Sustarsic: How has that earnings growth occurred? Like, we can pull that apart and really take the attribution on what that, on [00:25:00] what that looks like in order to prove that out quantitatively as well. So I think those are probably the two pieces, and then we spend a lot of time debating that as probably, like, the third of how, of how repeatable that, that is.

[00:25:12] Michael Sustarsic: And so those are the pieces where we spend, uh, a lot of, a lot of our time on

[00:25:17] Jon Meyer: So going back to one thing you brought up, have higher interest rates changed the way you’re asking these questions? ‘Cause I feel like higher interest rates are affecting the debt side. So I’m just curious if that’s changing what you’re looking for and how you ask the questions.

[00:25:33] Michael Sustarsic: Yeah. Yeah. I think one of the interesting things is, you know, having the, you know, opportunity, and we’re a team of generalists, and that’s intentional, and so our team will… E- everyone on our team will take meetings across equity, real assets, and, and debt. The perspective we’re able to actually take across those meetings is, is very informative.

[00:25:53] Michael Sustarsic: And so what a lender is telling us in one meeting, we can go ask the [00:26:00] equity, private equity manager about that. What a private equity manager is saying, we can go talk to the private debt managers about that as, as well. And so I think that perspective has brought a lot of insights, has brought a lot of, of value, and then just the, you know…

[00:26:18] Michael Sustarsic: I think the private markets tends to overweight the qualitative at times. The insistence on us to also try and prove things out quantitatively, I think is, has been very helpful. And- That process really leads us to some interesting questions. And so, you know, we can go through and take a, a business that is a buy and build.

[00:26:42] Michael Sustarsic: And so they start with a platform. They buy a bunch of incremental companies to add to it. The GP says, and it may look like, “Hey, we’ve, you know, grown earnings from 10 million to 20 million.” It’s like, okay, the next layer of that is how much of that have you [00:27:00] bought? How much of the earnings have you bought from additional add-ons or, or acquisitions during that hold period versus what was created organically?

[00:27:09] Michael Sustarsic: And so when we see that, well, you know, you, you started with 10, you bought 12 more, and you’re only at 20, like, you actually lost some earnings power there versus the one that’s, you know, 10, buys 12, and is sitting at 30 today. It’s like, okay, there’s been some meaningful integration. There’s been some meaningful organic growth.

[00:27:30] Michael Sustarsic: You haven’t just tried to cobble together and, and manufacture a, a, a return. That’s something… A- uh, it’s a conversation I think we’re having more and more today that you weren’t having when interest rates were, were declining a lot ’cause everything was working then.

[00:27:47] Jon Meyer: Mm-hmm. You bring up one other thing I thought was…

[00:27:49] Jon Meyer: I think is interesting. You have a team of people, and you sit around and debate each other, and I think that’s where I’ve seen a lot of people come in with portfolios that are a little [00:28:00] messy because they just haven’t had anyone to bounce ideas off of. The pro to that is you have people to debate with.

[00:28:06] Jon Meyer: The con is you’re debating constantly. Do you have any stories where you guys made a mistake?

[00:28:14] Michael Sustarsic: Oh, sure. Sure. There’s, there’s plenty of, of, of those, whereas like you’re thinking about it, and sometimes, like, you see the risk, and you- You work around it or you, you work to understand it, and that risk actually comes, comes true.

[00:28:29] Michael Sustarsic: I feel like a lot of times that, that happens with the people side of the equation. You know, I’d say, like, where we’ve made, we’ll call it mistakes, and some things even within those mistakes that, that you, that you get, that you get right. I would say one around alignment, and so asking the question: How important or valuable is this strategy or fund or investment to the organization that’s, that’s, that’s sponsoring it or, or that’s putting it, it on?

[00:28:57] Michael Sustarsic: If it’s not that important, if it’s… [00:29:00] then becomes a challenge, they’re less likely to, to stick with it, find good solutions with, with, with LPs. And so, so that’s one that I think we put a lot of emphasis on alignment and how important is this. And there’s, you know, most of what we do is a single strategy firm.

[00:29:17] Michael Sustarsic: Like, they don’t have other things. Like, there’s one thing that, that earns them at, that earns them economics at the end of the day. And so if it doesn’t go well, like, there’s, there’s a lot of problems for those individuals. So I think that is, that is, is one. I would say the, the other I would probably pull out, so we in thinking about as much ties in with, with portfolio construction as, as anything, but and I think aligned with some of the examples you, you’ve given on clients coming in.

[00:29:45] Michael Sustarsic: But do we truly have multiple ways to, to win in this investment, and do we need that relative to the, the portfolio? So we made a, an investment in an office-only fund a handful of years ago. Again, out of the [00:30:00] gate, everything was doing well. Obviously, COVID threw a wrench into, into anything that is, that is office.

[00:30:07] Michael Sustarsic: And so that has not performed well. In the right portfolio, that’s okay because I’ve got a specialist in office, and even though that office investment isn’t doing well, if I just benchmark it against other office funds, like, it’s still, relatively it’s doing well. Just on an absolute basis it’s, it’s not.

[00:30:29] Michael Sustarsic: In the right portfolio where it’s like, “Hey, we’ve got that, we’ve got an industrial, we’ve got a multifamily fund, we’ve got h- hospitality and, and a bunch of specialists,” like, that’s okay because something else on average has done, has done better. If that’s the standalone, then that’s a problem because that’s not truly like a diversified, a diversified portfolio.

[00:30:51] Michael Sustarsic: And so as we think about that, I think that’s been a, a lesson of like where can we be very specialized and build that portfolio? Where should we [00:31:00] think about having multiple ways to, to win if we don’t have as many opportunities to, to diversify?

[00:31:07] Jon Meyer: Sure. But when you look out, let’s say you’re, you’re standing 10 years out, what do you think investors are gonna do when they look back at 2026 and say, “I misunderstood what was going on in private markets”?

[00:31:21] Jon Meyer: What would that be?

[00:31:24] Michael Sustarsic: Yeah. There’s, there’s probably a, a, a few things that I would point to that … And it’s just I think the dynamic around these secondaries is, is one. And as we think about investment in that space, that becoming, you know, today I think very marketed as, “Hey, you’re getting things at, like, big discounts.

[00:31:47] Michael Sustarsic: You’re, you’re going to, like, completely mitigate your, your J-curve. You’re gonna get distributions back faster.” I don’t know that that’s always, always the, the case. You definitely mitigate the [00:32:00] J-curve, and so you get the immediate markup, assuming you get additionally… But the, the efficiency of the secondary market has, has also come a long way in the past five years.

[00:32:11] Michael Sustarsic: And so, you know, if we’ve got a client and we are looking, and so many groups today use that as a portfolio construction tool, not a, “Hey, I need liquidity tool.” I think there’s still the perception that that’s just a, “Hey, I need liquidity tool” tool. It’s definitely not. And so as we, you know, go, there’s, there’s dozens of advisors out there just like, you know, dozens of, of, of bank, investment banks that would look to transact.

[00:32:36] Michael Sustarsic: We can go to them and say, “Hey, where are things pricing in the market as we look at it?” And so that as, I think, has a- A perception around it is they tend to be very safe investments, they’re very diversified. But I tend to think, like, the upside isn’t necessarily in, in those as you would see in, in kind of a traditional primary fund or, or [00:33:00] something like that.

[00:33:00] Michael Sustarsic: So I think that kind of efficiency in the market is something that will probably be recognized in a dozen years that’s probably not as, as recognized today. I also think there will probably be some people that think like, “Oh, I’ve got exposure to private markets, like I’ve got exposure to the S&P 500.”

[00:33:21] Michael Sustarsic: Like, there’s not really an index today, and the dispersion of outcomes is, continues to be, continues to be really wide. And so I think those that, “Hey, you know, I’m gonna invest in private markets,” whatever it is, it’s not homogenous, but we’ll invest in private markets, and I’ll get a premium over, over public markets.

[00:33:43] Michael Sustarsic: As those two, and we talked about convergence earlier, like, as those two start to converge, the returns are gonna start to, start to converge as, as well. And so I think there’s a lot of folks that think like, “Hey, this is, this is a free lunch for me to get better returns.” And I, I don’t [00:34:00] think that’s, I don’t think that’s necessarily the, the case.

[00:34:02] Michael Sustarsic: So I think a lot of the, a lot of the work that we’re doing today is thinking about, okay, the appropriateness in the portfolio, how can we, you know, turn the dials in our favor, whether that’s from a risk standpoint or a return standpoint, or better yet, both.

[00:34:19] Jon Meyer: Interesting. Well, as we close up shop here, I just wanna ask you, is there anything that I didn’t ask that you think the listenership should know, or what questions am I missing here?

[00:34:31] Michael Sustarsic: Yeah. You know, the, the one thing we hadn’t talked that’s, you know, very topical now is the private debt space, and that probably more than anything has, has made a lot of headlines. And I think, like, our, our team has done a ton of, a ton of work and, you know, there’s been a, a, a handful of, you know, not-so-good outcomes there.

[00:34:57] Michael Sustarsic: It’s kinda getting dragged through the mud. I think from [00:35:00] what we’ve actually seen, looking through the portfolios at the underlying credit quality that’s actually there, we are probably relatively less concerned than the market headlines would, would suggest. And I’ll break it down into, into a few avenues.

[00:35:15] Michael Sustarsic: One, the liquidity mismatch on the semi-liquid ever of, A, the redemption queues are, are there. Like, yes, they’re there. We have seen a small tick-up in, you know, PIK interest being paid and, and things like that. But so far it seems a structural issue, not, you know, systemically, like, all these credits are bad.

[00:35:37] Michael Sustarsic: If all these credits are bad, w- I think we’d be a lot more concerned on the equity side because if those credits are bad, then, then the equity is completely gone. And so, you know, as we see that today, like, the structures are gating but a, not a massive deterioration in the credit quality. Now, that can certainly change and, and change quickly.

[00:35:56] Michael Sustarsic: Like, there are liquidity mechanisms, debt more so [00:36:00] than other asset classes, and these structures are self-liquidating, and so at some point the loan comes due. Typically, it, it gets refinanced kind of b- before that time. And so there are mechanisms to, to do that. So while that is making a lot of headlines, I’d say we’re, we’re relatively less concerned on, on that front.

[00:36:19] Michael Sustarsic: The second, I think, is the idea of, of software being a piece of that, and this is where the perspective, I think is, is very helpful. So a, a lot of concerns around, you know, questions we get from clients are just like, “Hey, how much software exposure do we have in, in this or, or that?” I think this is where talking to the equity managers is, is very helpful.

[00:36:39] Michael Sustarsic: And where we’ve seen change there is not necessarily, not necessarily, like, revenues declining or customers canceling en, en masse. That trickle may happen, but so far, like, revenues have been pretty stable. Earnings have been pretty stable. What’s really re-rated has been the multiple. And so what used to trade at, [00:37:00] call it, 10 times is now trading at, at five times earnings or revenue in the case of, of software.

[00:37:06] Michael Sustarsic: And so that’s put a little bit of pressure as they go to refinance. To put more cash into the business, but still gives us some confidence, like those credits aren’t going to be, aren’t going to be massively im- impaired. There are definitely like safer spots. I think the e- excitement of twenty-twenty, twenty-twenty-one probably extended some folks at a, at a tough time.

[00:37:30] Michael Sustarsic: But I think at least where we’re sitting today are, are maybe relatively less concerned than what headlines are, are showing.

[00:37:37] Jon Meyer: Well, it’s, it’s interesting on that front, even talking to people in general in the industry, AI was supposed to replace software, and I think we’re all agreeing that AI will be a layer on software that makes it better.

[00:37:51] Jon Meyer: And so maybe we don’t have to throw out all the software debt and software stocks.

[00:37:55] Michael Sustarsic: Yeah. Yeah. They’re, they’re… I- it’s interesting. There’s one [00:38:00] question we’ve been, you know, asking software managers for, and, and hundreds of software managers out there, we, we, we talk to a ton each year. But in the consistent questions we’ve, we’ve been asking for probably three or four years now, and this is a, a trend, it’s not like something just, you know, there was a step function change in that trend.

[00:38:20] Michael Sustarsic: But, you know, over time it’s always gotten easier and cheaper to create new software. And so i- it’s funny when you hear folks talk today, like the responses you get, you’re like, “How are managers differentiating? Like what is truly like a business that is sustainable and can grow versus an application that can potentially be replaced in, I don’t know, four hours on, on an, an AI coding software today?”

[00:38:48] Michael Sustarsic: And so those things that are system of record that are central to workflows, I go back and think about the conversations and the managers we’ve invested with, and those were the answers they were giving like three, four [00:39:00] years ago. And so now that everyone is saying that and everyone is investing like that, I, I feel very good about the selections we made three or four years ago, given that’s, given that’s where we were, where we were focused.

[00:39:11] Michael Sustarsic: So that’s… I- it’s one of those things like the, the world in that regard is like always gonna innovate. It’s always gonna move and, and being able to, to adapt and move back to the relevant and finding multiple ways to win is, is critical.

[00:39:28] Jon Meyer: We’ll, we’ll leave it at that. Find multiple ways to win, and private equity and private debt might be something to think about in portfolios.

[00:39:35] Jon Meyer: So I appreciate you coming on today, Michael. Why don’t you share with us, if people want to catch up with you or, or follow you, how can they do that?

[00:39:44] Michael Sustarsic: Yeah, absolutely. Uh, you can… Definitely on our website is probably the easiest way. Email should be accessible on, on there. So yeah, feel free to shoot us, shoot us a note.

[00:39:53] Michael Sustarsic: Or get in touch with Jon. He knows how to, he knows how to find me as well.

[00:39:56] Jon Meyer: That’s right, I do. I tracked him down. [00:40:00] Well, thank you, Michael. To that extent, if you want to follow anything with us here at BGM360, that is the website, and I look forward to our next time together. Have a good day, Michael.

[00:40:11] Michael Sustarsic: Thanks, Jon.

[00:40:11] Michael Sustarsic: You too.

[00:40:14] Outro: Thank you for tuning in to Mastering the 360 Mindset. If you enjoyed today’s episode, help us spread the word. Share it with your friends and family and anyone you think who could benefit, and be sure to subscribe so you never miss an episode. Want to learn more about working with BGM? Visit bgm360.com today.

[00:40:34] Outro: Until next time, keep mastering your 360 mindset. The information covered and posted represents the views and opinions of the guest and does not necessarily represent the views or opinions of Jon Meyer or BGM. The content has been made available for informational and educational purposes only. The content is not intended to be a substitute for professional investing advice.

[00:40:56] Outro: Always seek the advice of your financial advisor or other [00:41:00] qualified financial service provider with any questions you may have regarding your investment planning.

Thank you for tuning in to Mastering the 360 Mindset. If you enjoyed today’s episode, help us spread the word. Share it with your friends and family and anyone you think you could benefit. And be sure to subscribe so you never miss an episode. Want to learn more about working with BGM? Visit bgm360.com today.

Until next time, keep mastering your 360 mindset.

The information covered and posted represents the views and opinions of the guest and does not necessarily represent the views or opinions of Jon Meyer or BGM. The content has been made available for informational and educational purposes only. The content is not intended to be a substitute for professional investing advice.

Always seek the advice of your financial advisor or other qualified financial service provider with any questions you may have regarding your investment planning.

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This presentation is offered for educational purposes only and should not be considered a comprehensive review or analysis of the topics discussed today. These materials are not a substitute for consulting in a one-on-one context where all the facts of your situation can be considered in their entirety. Despite efforts to be accurate and current, this presentation may contain out-of-date information and there is no obligation to advise you of any subsequent changes or updates.

The opinion of the author is subject to change without notice and must be considered in conjunction with relevant regulation, as well as subsequent changes in the marketplace. Any information from outside resources has been deemed to be reliable but has not necessarily been verified. Each individual has unique circumstances to which this information may or may not be relevant. Under no circumstances will this information constitute an offer to buy or sell and it does not indicate strategy suitability for any particular investor. Past performance is not indicative of future results.

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