What Do Today’s Investors Want? Choices

Kunal Kapoor: My third trend is that structures are becoming more flexible, so that the new “here” is wherever you are. I know--that’s clever.

Investors have come to expect investing to fit their personal lives and values, rather than the other way around. As a result, we all have an opportunity to see services evolve, and even new investment vehicles emerge, to accommodate uniquely individual goals and preferences, including the use of models and direct indexing.

So, what is a model? To many of you, you may think of a strategy, but a model takes multiple strategies and puts them together and delivers it to you. Most robo-advisors are essentially delivering a model to the end investor. And what's direct indexing? Direct indexing is a personalized form of indexing where you take a base index, such as the Morningstar U.S. Market Index, and you personalize it based on your own personal ESG preferences, for example.

So, we're seeing a real surge in these types of offerings. On our own model marketplace at Morningstar there are now almost 1,400 models across more than 100 asset managers and strategies live in our software platform, Morningstar Direct. That's an increase of 83% in just the past seven months from around mid-2020. It's a space worth watching because we believe that demand for new vehicle types will grow because they are less expensive, more scalable, and because of the interfaces and the interactions that fintechs are allowing, there's a greater amount of personalization in the delivery of these models. So, as adoption grows, investors will need transparency in this otherwise opaque investment area.

How do you know if one is doing better than the other, for instance? You can expect to see Morningstar Analyst Ratings for models soon as we're working to illuminate this part of the investing universe as well.

So, what I've learned now is that the industry is putting real weight behind making personalized portfolios a reality. It's no longer enough to propose great investment products. You've got to tie product proposals directly to client goals and a willingness to accept risk and outcomes. This can be the difference between disengaged investors and ones who really care what their investments are about and who are focused on long-term outcomes. On the home front, Morningstar is well known for our role in the investment product space. But I think now that we are in the "you" space. We've been accelerating the rollout and integration, for example, of our FinaMetrica risk-profiling tool, which is an asset that's powerful, in that it's a suitability solution that connects client risk and goals to investment recommendations, and we find the tools like this can really help personalize that experience.

There's just no doubt, in fact, that investors have new opportunities for alternative and private equity exposure as well. If you look at PitchBook, there's just a growing number of these options available. As companies stay private longer and publicly traded stocks, at least until recently, have fallen in number, smaller investors have been boxed out of enjoying the gains in certain parts of the economy. There's a FOMO feeling on those kinds of growth opportunities. But the landscape is changing there, too, and asset managers such as T. Rowe Price and Fidelity have been including pre-IPO shares in their stock portfolios for a few years now.

You might be wondering why there are limitations here. But the 1933 and 1940 acts limit the ability of investment providers to pitch certain products widely, and income and wealth hurdles were instituted in 1982 that limited access to things like private equity funds, hedge funds, and things like that, to just high earners or institutions. But in 2020, the definition of an accredited investor changed, allowing smaller investors to access alts if they were being advised by someone now deemed to be accredited.

Another change in 2020 was the Department of Labor declaring that it was okay for individual retirement options offered to employees to start including private equity, as long as they were guided by an expanded list of accredited investors. Many see the first inroads of private equity into 401(k)s as a limited portion of a target-date fund. Though asset managers are all looking at this and thinking about their next steps. In fact, I think I just read yesterday that KKR KKR is looking to offer something in this space.

Now, people are shaking free from the old guard's way of accessing capital. Entrepreneurs no longer need that investment bank or hedge fund for an idea to take flight. In just a week or so, new rules approved by the SEC will allow companies to raise $5 million every year by selling equity through crowdfunding. That's five times as much as is allowed now. And there will be no limit to what an accredited investor can put in. We're also seeing more uptake in flexible avenues to IPOs. Some of the largest VC-backed businesses are opting for direct listing. You're seeing Roblox RBLX and Coinbase COIN, enterprise data software providers Databricks and UiPath, both raising massive VC financing with the idea of going to direct listing, possibly.

Now, at Morningstar, we're big believers of that. In fact, when we came public in 2005, we did an auction IPO. That year was just Morningstar and Google GOOGL that did auction IPOs, and I've always wondered why more companies have not followed that path, and I've been glad to see the direct listings. Of course, you've also probably heard of special purpose acquisition companies, or SPACs, sometimes referred to as "blank check companies," which have also become all the rage. There were more than 250 of them in 2020 that raised more than $75 billion. And so far, this year, we've already seen 60% of that amount take flight in 2021. A lot of what's going on here boils down, though, to the fact that people are maybe trying to make a quick buck, and investor beware when it comes to SPACs. If you're interested in SPACs, take a look at PitchBook. We've got a lot of interesting information in there. But I will say, when I look at the IPO market, I'm less excited about SPACs and definitely more excited about direct listings and auction IPOs.

So what?, and where do we go from here? While we expect that fintechs can and will continue tackling new questions and opening new possibilities to empower investors beyond simply using frontier technologies to make all things go faster and cheaper. It's valuable, but that's not the only thing. With more investors engaging new vehicles and outcome-based processes to achieve personalized investing experiences, the financial industry is on a path to master the concept of knowing the investor, knowing the investor. And with the growing accessibility of a broader range of private and public investment options, fintechs are poised to curate the expanding sea of choices for a wider field of investors, with tools and insights attuned to each unique context operating in real time. This leadership is imperative as individuals navigate complex environments at the intersection of investments, banking, payments, health--and yes, social media.

So, the growth of global fintech sits at the intersection of these waves. It's ripe for new types of investors to engage when and how they want, and in ways that are unique to them and the goals that they believe will make them successful. The rapid innovation against an accelerated rate of change means more-nimble contenders have very real opportunities to unseat incumbents. But the incumbents are also awake and moving as quickly as I've seen them. So, with all this opportunity comes a chance for responsible leadership to protect against some of the stumbles we have seen in past periods where things have seemed so good.

So, as I reflect on a really strange year, where at a personal level with the pandemic it was hard to feel great about things and yet on a professional level to see all this wonderful change taking place in our industry, it reminds me that one thing hasn’t changed and that is having a true north. Doing the right thing by the investor and by your stakeholders will never steer you wrong. And as you think about charting your next course, think not only about how you can build a successful business, but how you can do so in a way that connects to all your stakeholders in a sustainable and thoughtful manner.