Historically, U.S. securities law has drawn a sharp line between public and private markets. Public securities are open to all investors, subject to strict disclosure requirements, and actively traded on exchanges. Private markets, by contrast, have been limited to accredited and qualified investors, with higher entry thresholds and far less transparency. Over the past two decades, this divide has widened: the number of public company listings has fallen from over 7,000 in the late 1990s to roughly 4,000 today, while private fundraising under Regulation D has soared, rising from $588 billion in 2009 to $2.15 trillion in 2024. 

This shift has fueled perceptions that retail investors are being shut out of the most attractive opportunities. Coupled with growing political pressure to “democratize” investing, regulators such as the SEC and Department of Labor are weighing reforms that could expand access to private funds. But according to a new white paper by Benjamin C. Bates of Harvard Law School’s Program on Corporate Governance, doing so without stronger safeguards could expose retail investors to hidden risks of volatility, illiquidity, and poor performance.  

The Rise of Retail Private Funds 

Bates’ paper, Retail Access to Private Markets, examines the rapid growth of investment vehicles designed to bring private market exposure to everyday investors. These include business development companies (BDCs) and non-traded closed-end funds (CEFs). Unlike traditional private equity funds, these products promise periodic withdrawals at net asset value (NAV), giving the appearance of liquidity. 

Yet case studies show those promises can quickly unravel. Bates highlights CION Investment Corp., which attracted nearly $1 billion while reporting stable returns and steady dividends. In practice, CION restricted withdrawals in 2019, suspended them entirely during 2020, and when eventually listed on an exchange, traded at a 30% discount to NAV. Investors who stayed longest absorbed steep losses, despite years of “smoothed” NAV reporting that suggested stability. 

The Problem of “Smoothed” Returns 

Bates’ analysis shows that retail private funds tend to report low volatility and low correlation with public markets, making them look safer than they truly are. This effect comes from valuation models applied to illiquid assets, rather than observable market prices. 

“Traditional private funds often report returns with very low volatility, but these ‘smoothed’ returns are a product of the fact that the funds’ investments do not have observable market values and are valued using financial models,” Bates wrote. 

Michael Underhill, CIO of Capital Innovations and member of Connect Money’s Alternative Investments Advisory Board, underscored the problem: “Smoothed NAVs can mask volatility, leading to misaligned risk assessments. ALM [Asset-Liability Management] must adjust for this by using scenario analysis and incorporating unsmoothed proxies to better reflect potential drawdowns and liquidity needs.” 

A Two-Tiered Marketplace 

The white paper found that products marketed to less wealthy investors perform worse than those designed for institutional or ultra-high-net-worth clients, raising concerns of a two-tiered marketplace. Bates noted this is particularly troubling as institutional allocations to private equity and venture capital have slowed in recent years due to weaker returns—suggesting that lower-quality offerings may be redirected to the retail market. 

“This concern is especially poignant now because, in recent years, institutional investors have reportedly become more reluctant to put money into private equity and venture capital as returns in these asset classes have declined,” explained Bates.  

Democratization: Political Will vs. Investor Protection 

Reported returns often appear competitive with high-yield bonds, but adjusted for volatility, risk-adjusted performance is frequently inferior to public equities. Exchange-listed BDCs, for example, show volatility four times higher than their NAV-based reporting would suggest. 

The drive to open private markets to retail investors reflects both political will and market demand, but without reforms in disclosure, liquidity, and oversight, retail investors could face significant losses. As Bates’ research shows, the real question is not whether democratization will happen—but whether it can be managed responsibly to protect those least prepared for the risks. 

“Retail investors expect periodic access to their capital, but private assets are inherently illiquid,” said Underhill. “ALM frameworks must incorporate liquidity buffers, redemption forecasting, and stress testing to ensure funds can meet obligations without forced asset sales.”   

“If regulators expand access, safeguards should include investor suitability checks, clear disclosures, redemption gates, and minimum manager qualifications. These measures help protect retail investors while maintaining market stability.”