The Retailization of the EU’s Private Markets: A New Golden Age?

A raft of new reforms to the European Long-term Investment Fund (ELTIF) are set to provide unprecedented access for retail investors to private equity markets this year, marking a significant shift in investment opportunities and financial inclusivity.

While there is significant potential for a boom in private equity investments across the EU in coming years, retail investors will also need to navigate new challenges, and potential risks. 

The Shift Towards Retailization: Bringing Big Investments to Everyday Investors 

In 2015, the ELTIF was launched under Regulation (EU) 2015/760 as part of the European Union's Capital Markets Union (CMU) initiative. This fund structure was created with a focus on long-term investments and initially aimed at professional investors. While retail investors were permitted to participate, their involvement was heavily restricted.

But things look set for a shake up thanks to ELTIF 2.0 and the increased realization of investing. 

Retailization is transforming the investment landscape by opening doors that were once tightly shut. Traditionally, investment opportunities like private equity, private credit, and real estate were reserved for institutional investors—big players like financial institutions, pension funds, and the ultra-wealthy.

Now, retailization is potentially democratizing these markets, enabling everyday investors to access and participate in opportunities that were previously beyond their reach.

The intended goal of ELTIF 2.0 is straightforward: channel capital into the real European economy to support economic growth, innovation, and job creation. This encompasses a wide range of projects, from infrastructure and new technological development to sustainable energy production and distribution. 

By affording access to individual investors to invest in private equity, private credit and real estate, areas historically dominated by the institutional investor class, some estimates suggest the potential for an additional total of up to €100 billion in new investments over the next five years. 

Under the original 2015 ELTIF regime, both fund managers and investors found themselves tangled in red tape with a somewhat disappointing initial uptake. Between 2021 and 2024 ELTIFs created went from just 57 to around 119, the majority of which are based in Luxembourg, according to Tanguy Wandewerve of the European Fund and Asset Management Association (EFAMA). The total combined market grew from €2.7bn to €13.6bn during the same period. 

So what can retail investors expect from ELTIF 2.0 in terms of new opportunities and improved protections?

Opportunities and Challenges 

The European private equity market typically displays lower volatility than traditional public markets. It also boasts the potential for higher returns, typically outperforming publicly available stocks and bonds by roughly five percentage points per annum, according to 2022 research from GSAM and Cambridge Associates. This allows retail investors to diversify their portfolios even more. 

However, although private equity markets tend to be less volatile than public markets, they do not have immunity from market forces and economic upheavals. In other words, they are not recession-proof. 

With this looming possibility, retail investors need to be prepared to lock away significant capital for several years in order to reach the maturity in their chosen funds. These timelines may not be attractive to retail investors seeking a sense of security, especially given the recent years of rapid and sometimes extreme geopolitical and economic fluctuations worldwide.

With this in mind, lawmakers have added a greater degree of clarity to the regulations under ELTIF 2.0 to allay these fears, while outlining what’s expected of fund managers who want to market to the retail investors of Europe.  

Protections for Retail Investors

Under ELTIF 2.0 regulation, several key protections are set to be implemented to help retail investors navigate this new terrain. 

Suitability assessments: Before investing in an ELTIF the retail investor must prove they have sufficient understanding of the investment, the timelines and the inherent risks therein. These assessments will detail the individual investor’s financial situation, risk tolerance, and stated investment goals. 

Cooling-off periods: Retail investors are granted a two-week period during which they can withdraw from the subscription agreement without incurring penalties. This safeguard is designed to prevent inexperienced investors from committing to long-term investments too quickly.

Diversification requirements: ELTIFs boast strict diversification requirements in order to mitigate risk and maintain a certain degree of liquidity at all times, in order to facilitate and properly manage secondary market transactions (more on that below). Under the ELTIF 2.0 regulations, the following rules are particularly important for offerings targeted at retail investors:

• At least 55% of the ELTIF must be invested in an illiquid portfolio, including, but not limited to: private equity, debt, loans, real assets, green bonds, etc. 
• A maximum of 45% of assets must be held in a liquid asset portfolio, including: equities, bonds, money market instruments, etc. 

Leverage restrictions: In the same vein, ELTIFs marketed to retail investors are prohibited from borrowing cash amounting to more than 50 percent of its net asset value (NAV). However, ELTIFs marketed exclusively towards professional investors can borrow cash up to 100% of their NAV. This highlights the varying degrees of risk mitigation under the new regulation when comparing retail investors and professional investors. 

Secondary markets: The new regulations explicitly state the provision for secondary markets under ELTIF 2.0, which would allow retail investors to sell their ELTIF units or shares before the fund reaches maturity. 

This allows retail investors to make an early exit, provided there is sufficient buy-side demand from other interested retail investors. According to the Official Journal of the European Union, fund managers are also required to “put in place a policy for matching potential investors and exit requests,” to ensure compliance across the board. 

While these secondary markets existed under the previous regulatory regime, the latest rules require fund managers to share: 

• Transfer process details
• Roles and responsibilities of the ELTIF manager
• The frequency and duration of the liquidity window 
• Any and all disclosure requirements
• All relevant fees, costs, and charges related to the liquidity window.

These new rules are designed to invigorate secondary markets, which have fallen short of EU lawmakers' expectations. According to the lawmakers, current retail investors in this area "have hardly utilized the secondary trading mechanism for buying and selling ELTIF units or shares."

Is There Enough Protection? 

Private markets are, by their very nature, complex and somewhat opaque, hence the long-standing domination by institutional investors. There is always potential for investors to be overwhelmed by these market intricacies, regardless of fund manager marketing and communication strategies, as well as regulatory oversight. 

Furthermore, the overall complexion of the private markets, with juicier-than-average ROIs, may prove too tempting for some unsophisticated retail investors. While the current protections outlined in the regulation appear more robust than ever, there is always the potential for gaps to appear, and to be exploited. 

As both private and retail investors increasingly turn to alternative investments for diversification and risk mitigation in these uncertain times, the ongoing commitment of lawmakers to adapt and refine these regulations will be key.

By staying vigilant, they can help ensure that retail investors are not only protected but also empowered to thrive in the evolving investment landscape.