Why (and how) to invest in Private Equity
Investors are increasingly looking to stave off the effects of what many speculate to be an impending global financial crisis, and which some even believe could be a “new normal”.
In this worst-case scenario, economic stagnation will combine with inflation to create an environment in which neither stocks nor bonds can be relied upon to grow or preserve a portfolio’s value. In other words, the standard ‘60:40’ portfolio (60% equities and 40% bonds), consisting entirely of publicly-traded securities, will no longer be sufficient.
Private Equity (PE) is one of the leading examples of so-called ‘alternative’ assets. If used correctly, this asset class offers a way to grow your portfolio even against an uncertain economic backdrop. Let us look in more detail at how PE works.
What is PE?
The term ‘Private Equity’ refers to an investment in a company that is not publicly traded. Like many privately-traded securities[1] , value is less correlated with the fortunes of the overall stock market. In other words, when the market is down, a PE asset may still go up.
Source: Cambridge Associates
Historically speaking, this has contributed to higher returns in PE as an asset class, as the graph above illustrates.[1]
PE investments are typically made by a vehicle called a Private Equity Fund. Multiple investors (known as Limited Partners or LPs) contribute assets to the fund, which is managed by a professional investment team (known as General Partners or GPs). The GPs screen and select potential investments, and generally take a majority or controlling interest in the firms they target.
PE firms follow different strategies to achieve a return for their investors. Buyout funds target mature businesses with stable cash flows. Growth funds, meanwhile, target firms whose performance they can materially improve through changes to strategy, management, or processes. Venture Capital funds target firms that they believe are positioned for rapid growth.
In each case, the performance of the overall economy is less of a determining factor of returns. Rather, it relies on the proper selection of investments and the skills of the GPs in executing the fund’s investment strategy.
These plans often take years to implement, and so funds are typically raised for a fixed period or ‘fund term’. During this time (often around ten years), the LP’s capital remains committed to the fund.
PE in 2022
Allocation to private equity among institutions has grown steadily over the last couple of decades. Private equity and debt together have outperformed their public counterparts in 19 out of the 20 years leading up to 2021.[2]
Growth in private equity fundraising has slowed down in the first half of 2022[3], but acquisitions by PE firms have continued to post healthy numbers. Looking beyond this year, a Deloitte forecast sees total funds invested in global private equity assets continuing to rise, reaching $5.8 trillion by 2025.[4]
The extended timeline of private equity investors also means that the pressure to show immediate growth is not as great an issue as it would be for a typical investment fund.
As there is a large amount of uninvested cash that remains on hand at many funds[5], there is no reason to expect a sudden collapse in deal-making, particularly as companies often make more attractive acquisition targets during challenging economic times, as valuations trend lower.
Furthermore, this excess cash can be put toward growth and operational improvement initiatives in portfolio companies, at the very time when competitors are being compelled to reign in spending. For the best funds, a market downturn is a golden opportunity to demonstrate the benefits of private equity over traditional investments.
For most investors, access to private equity has historically been challenged. This is mainly due to the high minimum asset thresholds (ranging anywhere from hundreds of thousands to tens of millions). Another issue is the illiquidity of the required capital, which remains ‘committed’, if not actually invested, throughout the lifecycle of a PE fund.
Until recently, the only option for smaller investors included direct investment (as an “Angel” investor), or indirect exposure to PE via publicly traded securities (e.g. an ETF that invests in private equity). Such options brought with them either higher risk or higher fees.
How Petiole Can Help You
We are committed to broadening access to private equity for our clients. Not only does our platform give investors transparency and control over how their funds are deployed, but we also have the track record and expertise to ensure that your money is used wisely.
As stated above, private equity is a powerful tool in the hands of the right manager, and the first job of any investor is to screen for the best possible team. We are confident that you can unlock the full potential of PE to achieve your investment goals, because we will personally see that you achieve them.
To find out more about opportunities in private equity and private markets overall, get in touch using the link below, or book an appointment with one of our specialists.
Disclaimer:
The statements and data in this publication have been compiled by Petiole Asset Management AG to the best of its knowledge for informational and marketing purposes only. This publication constitutes neither a solicitation nor an offer or recommendation to buy or sell any investment instruments or to engage in any other transactions. It also does not constitute advice on legal, tax or other matters. The information contained in this publication should not be considered as a personal recommendation and does not consider the investment objectives or strategies or the financial situation or needs of any particular person. It is based on numerous assumptions. Different assumptions may lead to materially different results. All information and opinions contained in this publication have been obtained from sources believed to be reliable and credible. Petiole Asset Management AG and its employees disclaim any liability for incorrect or incomplete information as well as losses or lost profits that may arise from the use of information and the consideration of opinions.
A performance or positive return on an investment is no guarantee for performances and a positive return in the future. Likewise, exchange rate fluctuations may have a negative impact on the performance, value or return of financial instruments. All information and opinions as well as stated forecasts, assessments and market prices are current only at the time of preparation of this publication and may change at any time without notice.
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