I'll give the long-form counterpoint to SMG's buy & hold argument... First, I'll give Don credit for what seems like an honest answer and saying what many GPs won't, which is that he is getting paid on the promote and is not interested in subjecting his payday to timing or market risk... and it is a GP/LP conflict which should (and can) be addressed. For context, as a taxable LP with a long horizon, my primary motivation is to invest capital in a manner that produces a reasonable risk-adjusted return net of taxes & fees on a long-term basis. This inherently conflicts with the GP perspective of quick value creation and high turnover because of the following, - Taxable LP investors have two carried interests - their GP and Uncle Sam. The latter can be as high as 50+% (Fed S/T Cap Gain+NIIT+CA/NY) but can be deferred indefinitely or eliminated. Let's assume a total 30% tax drag (L/T Cap gains + NIIT + median state tax). Assuming a ~2x MOIC (based on SMG's 3yr 24% IRR comment), that brings our post-tax return to ~18% and a 1.7x MOIC. Not bad at all, but 1/3 of your gain is gone and unable to produce a return which we'll quantify later... - Cash drag & Re-investment risk are real. If I have a Retail value-add sleeve that I want invested with Mr. SMG, my portfolio returns are suffering each day those funds are idling in T-Bills waiting for him to call the money back on the next deal/fund. Using our post-tax figures - if it's another 12 months, that drops us to a ~14.5% IRR. 24 months, drops to a ~12% IRR. Point here is that once Mr. GP returns capital, his pref/promote clock stops ticking but an LPs never does and while the big pre-tax deal IRR is fun to brag about at the 19th hole, net portfolio returns are what count. How do you solve this for both GP & LP? - First, be realistic about whether the assets are "trading sardines or eating sardines." SMG says he is doing deals in solid markets like Silicon Valley so lets assume the latter but if you're putting lipstick on pigs in declining markets, taking long-term risk may not be appropriate. - Separate the initial value-add phase from the stabilized hold phase. Few options to solve this, but the gist should be crystalizing the GPs promote in equity or cash and converting the ownership structure from a high fee to a low fee hold structure. Mr. GP gets his payday for the value added, and LPs get a very attractive tax-advantaged yield on their cost basis, possibly with most or all of their original capital returned. Lets use some numbers as an example - $5m deal, 50% debt. Value-add lift produces an 11.5% yield on cost (using SMG's "over 10%" figure). Lets assume the stabilized asset could trade at a 7% cap rate ($8.2m) which, assuming a 20% promote, would return a 2x MOIC and ~26% IRR over 3 years for the LPs if exited. - Instead of selling, lets crystallize the GP's promote into equity which would equate to ~11% of the total equity, and assuming we're in a "normal rate environment" with 150bps of positive I/O leverage (I know, I know..🤯), this deal would cash flow about $425k/yr or about a 17% yield on the original equity. LPs are giving up 11% to the GP, so figure they are yielding about 15% on their crystalized equity, presumably 100% tax-deferred with depreciation. - Stopping here, this is a great place to be. You've got 100% of your capital invested, earning a 15% yield tax deferred at an extremely conservative 30% LTV and almost 4x DSCR. GP is paid and happy. Win-win. - Everyone wants to do this again, but we need capital, so lets do a cash-out refi to keep deal #1 going and have the ability to chase deal #2. Again, making some "normal interest rate environment" assumptions, you could easily pull out ~85% of initial capital with a relatively conservative 60% LTV loan (2x+ DSCR), continue to hold and cash flow this asset, and defer taxes. - Ballpark metrics post cash out: - 85% of initial capital returned to reinvest into deal #2 - $2.9m of LP equity remaining, $800k of which is a deferred tax liability (which will continue to grow with depreciation expense) - LPs are yielding ~$270k/yr tax-deferred, which should grow with lease bumps - ~13% tax deferred yield on tax-adjusted equity - ~80% yield on remaining initial capital Obviously, the ideal outcome is that Mr. GP can continue to execute on his/her value add deals, LPs can continue holding them indefinitely at an attractive yield, and we all compound to the moon... 🚀 In the real world, this never happens quite so easily. Rates go up, deals don't pan out as expected, capital flees, lending drys up, etc, but the point is, if you're an LP and can keep your capital invested in good deals, earning attractive risk-adjusted yield, defer taxes and have the ability to reinvest capital when more deals come along, that is the key to compounding at the portfolio level on a long term basis and avoiding the "three drags" of tax, cash, and reinvestment (4th is divorce if you're so lucky... 👀) At the end of the day, Mr. SMG is offering a high IRR, high turnover investment product to his LPs, and if that is what they want, then great, Win-Win, hopefully everyone is happy but I do think the mantra that "buy & hold doesn't work" is misguided if you look at it from the taxable LP's portfolio level. Stepping off the soapbox - I'd make the strong argument that most non-institutional taxable LPs should consider buying & holding when the stars align at the asset and partnership level. You may not get the "Country Club Investor of the Year" award from your golf buddies Bob & Chester, but your ex-wife (& the pool boy) will appreciate the tax-deferred cash flow, and when you finally kick the bucket, your grandkids can get that sweet stepped-up tax basis, sell out, and buy a fleet of skittle colored Lambos to honor your investing acumen... 😂