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Funds That Invest Like Mitt Romney

NEW YORK ( TheStreet ) -- As Mitt Romney's career famously demonstrated, private-equity investments can generate huge returns.

During the 10 years ended in 2012, institutional private-equity funds returned 17.9% annually, compared with 7% for the S&P 500, according to research firm Preqin. Taking notice of the fat results, plenty of pensions and endowments, have been shifting assets into private equity. According to Wilshire Trust Universe Comparison Service, institutions with more than $1 billion of assets have 9.1% of their holdings in private equity, up from 4% in 2006.

It has long been difficult for retail investors to gain access to private equity. But recently several exchange-traded funds have appeared that provide some exposure. Choices include ProShares Global Listed Private Equity (PEX) and Market Vectors BDC Income (BIZD). There is also an exchange-traded note in the field, UBS ETRACS Wells Fargo Business Development Company (BDCS).

Can the funds make you as rich as Romney? Probably not. The former Massachusetts governor and GOP nominee for president succeeded because of an unusually deft investing touch and lots of leverage. Still, the new funds could prove to be intriguing sources of income.

Part of the reason that private equity can deliver outsized returns is that it is often cheaper to acquire stakes in private companies than it is to buy the stock of comparable public companies. Investors demand discounts because the private shares may be difficult to unload. In contrast, stocks that trade on public markets command higher prices because they can be bought and sold in an instant with a keystroke. Part of Romney's secret was to buy illiquid private companies at low prices -- and then sell them for higher prices in liquid public markets.

ETFs don't invest in private equity directly. Instead, the funds hold the public shares of companies that own private equity. Some of the ETFs specialize in business development companies (BDCs). The BDCs can buy private stock or they can make loans to private businesses. Because of low interest rates, loans have been especially profitable lately. In a typical deal, a BDC raises cash by borrowing at 6%. Then the company turns around and issues loans at 10%.
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