Understanding Private Assets in Public Portfolios
When you invest in a typical mutual fund or an Exchange Traded Fund (ETF), you usually expect to own a piece of companies you recognize, like tech giants or retail chains. These are public markets, where shares are bought and sold every second on stock exchanges. However, a newer trend involves professional investors, most notably Cathie Wood and ARK Invest, adding private companies into these funds. To understand this, think of the stock market as a busy, well-lit grocery store where prices change by the minute. A private company is like a rare item sold at a private auction house; it is not on the shelves, and you cannot easily check its price tag or sell it on a whim.
A private company is a business that has not issued shares to the general public. Because it does not trade on an exchange, its value is not determined by the daily tug-of-war between millions of buyers and sellers. When Cathie Wood incorporates these private assets into her ETFs, she is essentially bridging two different worlds: the accessible, liquid world of public markets and the restricted, long-term world of venture capital. Understanding this shift is important because it changes how we think about risk, liquidity, and the traditional goals of an investment strategy.
How Private Assets Enter the World of ETFs
The mechanism of including a non-public company in an ETF is complex because of a core rule of the stock market: liquidity. Liquidity refers to how easily an asset can be converted into cash without affecting its price. Public stocks are highly liquid; if you want to sell them, you can do so in milliseconds. Private equity, or ownership in a non-public company, is illiquid. You might hold onto those shares for years before the company goes public or is sold.
Imagine you run a fruit stand where people come and go constantly. Suddenly, you decide to reserve a portion of your inventory for a rare, slow-growing exotic fruit that only ripens once a year. While you wait for it to ripen, you cannot trade it. In the financial world, Cathie Wood and her team at ARK Invest use specific legal structures to hold these private assets. When a fund invests in a private company, they estimate its value periodically. They do not get a “market price” every day, so they rely on sophisticated internal valuations to determine what that share is worth to the ETF holders.
For example, if an ARK Invest fund decides to buy a stake in a private artificial intelligence startup, they negotiate a price for a block of shares. Those shares are then held on the fund’s books. As the fund manager, Cathie Wood bets that this disruptive innovation will eventually become so valuable that it compensates for the fact that the asset cannot be sold quickly today.
Why Mixing Private and Public Markets Matters
The move toward including private companies in retail-facing ETFs has significant implications for both the individual investor and the broader economy. For the individual, the most important factor is the “valuation lag.” Because private companies do not trade daily, the price reflected in your ETF might be based on an appraisal from months ago. If the broader market crashes, the public stocks in your fund might drop instantly, while the private holdings might stay flat simply because they have not been re-evaluated yet. This creates a disconnect between the price you see and the reality of the market.
Economically, this trend allows everyday investors to access venture capital-style growth that was once reserved for wealthy institutional investors or venture capital firms. By putting private, high-growth startups into ETFs, fund managers are attempting to capture the massive upside of disruptive innovation before these companies go through an Initial Public Offering (IPO). However, this also introduces a new risk: if too many investors try to sell their shares in the ETF at once during a market panic, the fund manager might struggle to sell the illiquid private assets to pay them back, potentially forcing the fund to sell its public stocks at disadvantageous prices.
The Evolution of Investment Strategy
Historically, the lines between public and private markets were strictly drawn. Public markets were for the “retail” investor, while private equity was the domain of pension funds, endowments, and ultra-wealthy individuals. This began to change as more tech companies chose to stay private for longer. In the early 2000s, it was common for companies to go public, or IPO, after just a few years of operation. Today, companies like SpaceX or various AI firms often remain private for over a decade, meaning they have already captured most of their explosive growth before they ever reach the public stock exchange.
This reality forced investment managers like Cathie Wood to adapt. If ARK Invest wants to capture the leaders of tomorrow, they can no longer wait for the IPO window. They must enter the private market directly. According to data from the SEC, while the number of public companies in the U.S. has decreased significantly since the late 1990s, the number of private companies has soared. This structural change in the economy is the primary driver behind the current interest in blurring the lines between private and public market strategies.
Practical Implications for Your Financial Life
If you are considering an investment in a fund that holds private assets, you should focus on the concept of “time horizon.” Because these funds are tied to companies that are not yet traded, they are generally not suitable for money you might need next month or next year. You are essentially paying the fund manager for their expertise in spotting companies that will take years to mature.
A common misconception is that because a fund is traded on a daily exchange, every asset inside it is equally liquid. This is not true. When you read news about a fund’s holdings, look for the percentage of the fund allocated to private equity or “Level 3 assets,” which is the accounting term for assets that are hard to value. If the percentage is high, be aware that the fund’s daily share price may not reflect current market conditions as accurately as a fund holding only public stocks. Always prioritize funds that align with your actual need for cash versus your desire for long-term growth.
Connecting the Dots
Understanding private assets in public funds is closely tied to the concept of asset allocation. Asset allocation is the strategy of balancing risk and reward by apportioning a portfolio’s assets according to an individual’s goals and risk tolerance. Learning about market liquidity also helps clarify why some funds perform differently during market volatility. Furthermore, understanding the difference between public equity and venture capital provides a clearer picture of how high-growth technology companies actually develop. Exploring these topics can help you build a more resilient and informed portfolio.
Frequently Asked Questions
What happens if an ETF holds a private company and the market crashes?
Because the private company does not trade on an open market, its price in the ETF might not drop immediately like public stocks. However, this creates a valuation gap where the ETF’s share price might not reflect the actual underlying value, potentially leading to increased volatility if the market eventually adjusts the price of that private asset downward.
Is it riskier to invest in funds that include private equity?
Generally, private assets are considered higher risk because they are illiquid and often lack the same level of regulatory transparency as public companies. While they offer the potential for high returns through disruptive innovation, they also carry the risk that the company may fail or fail to ever reach a public market, making the investment difficult to exit.
How does Cathie Wood use private assets to support her investment strategy?
Cathie Wood and ARK Invest use private holdings as part of an aggressive, long-term focus on disruptive innovation. By buying into private companies early, they aim to secure ownership in future industry leaders before the public market gets a chance to bid up the price.
Can individual investors buy private shares directly?
Usually, no. Private equity and venture capital investments often require “accredited investor” status, which entails meeting strict income or net worth thresholds defined by financial regulators. ETFs that include these assets are the most common way for non-accredited investors to get indirect exposure to these private firms.
Why is the number of private companies growing compared to public ones?
Regulatory costs, the desire to avoid the short-term pressure of quarterly public reporting, and the ability to raise vast amounts of capital from private sources have encouraged many startups to remain private for much longer than in the past.
This content is provided for educational purposes only and does not constitute financial advice. All investment involves risk, including the loss of principal. Financial situations and investment goals are highly individual; it is strongly recommended that you consult with a qualified financial advisor or tax professional before making any investment decisions. Historical performance and the strategies mentioned herein do not guarantee future results.
