The US regulator has adopted a number of changes to the meaning of the term "accredited investor" - a big step in expanding the number of people who can hold assets such as private equity, debt, infrastructure and real estate.

The US took a further step toward widening access to private capital markets – now drawing in money from family offices and other wealth management entities – by putting through changes to regulations yesterday.

The Securities and Exchange Commission announced that it had adopted amendments to the “accredited investor” definition, one of the principal tests for determining who is eligible to invest in private capital markets. For example, people can qualify as accredited investors based on professional certifications, designations or other credentials from an educational body. 

Historically, individual investors who do not meet specific income or net worth tests, regardless of their financial sophistication, have been barred from this sector.

“Today’s amendments are the product of years of effort by the Commission and its staff to consider and analyze approaches to revising the accredited investor definition,” SEC chairman Jay Clayton said. “For the first time, individuals will be permitted to participate in our private capital markets not only based on their income or net worth, but also based on established, clear measures of financial sophistication. I am also pleased that we have expanded and updated the list of entities, including tribal governments and other organizations that may qualify to participate in certain private offerings.” 

The amendments allow investors to qualify as accredited investors based on defined measures of professional knowledge, experience or certifications in addition to the existing tests for income or net worth. The amendments also expand the list of entities that may qualify as accredited investors, including allowing any entity that meets an investments test to qualify. 

The potentially superior yields that private capital – debt, equity, real estate and infrastructure – can deliver compared with listed markets, is attractive to investors at a time of near-zero or even negative official interest rates. That higher yield comes with low liquidity – a trade-off that has concerned regulators, particularly at times of market stress.

The volume of private capital runs into billions. To cite private debt, for example, a total of $34 billion of private debt funds were raised among 49 funds in the second quarter of this year. Within private equity, $116 billion was raised in the quarter. (source: Preqin). For the most part, only institutions, including family offices, and ultra-wealthy individuals deemed “accredited”, could participate. 

In recent years a number of firms, such as the New York-based financial platform iCapital Network, have expanded offerings, saying that they democratize access to such non-public investment asset classes. 
 

Changes
The SEC said that the amendments to the accredited investor definition add new categories of qualifying natural persons and entities and modify the current definition.  

The regulator’s move drew a cautious reaction from John Bowman, senior managing director with the CAIA Association, an educational organization in the alternative investments space. 

“Modernization of the rule was long overdue and shifting from the dated binary wealth and income test to a multi-factor approach centered on education is right on. Capital formation and diversification benefits are building blocks of solid long-term wealth creation that all investors should have access to,” Bowman said. “That said, throwing the unsophisticated retail investor into a wide dispersion, opaque, high fee, idiosyncratic bullpen without proper education is derelict and at odds with true fiduciary duty.”

Bowman said that the SEC must raise the standard of care for investors above the level set out in the recent Regulation Best Interest Rule, which he said is “ambiguous and porous”. (Regulation BI has come in for wealth industry criticism. See here and here.)