- Many of the world’s largest investors are planning to grow the size of their private equity teams
- Three quarters of LPs think today’s level of PIK debt issuance implies a frothy credit market
- Only one third of PE investors invest in GP-sponsored IPOs
- Billionaires’ futuristic tech-based ventures are mainly ‘rich men’s vanity projects’, LPs say
Private equity has become more attractive as an asset class in the wake of the global financial crisis, according to Coller Capital’s latest Global Private Equity Barometer – 44% of Limited Partners believe private equity has become more attractive in the volatile post-GFC world. Only 12% of investors think it has become less attractive.
This view is clearly reflected in Limited Partners’ plans. Over a third of investors (37%) are planning to increase their target allocation to private equity over the next 12 months, and many of the world’s largest investors are planning to grow the size of their private equity teams. Half of sovereign wealth funds plan to grow their teams, as do nearly half of insurers and asset managers, and a quarter of public pension plans. “Why are investors focusing more and more on private equity?” asked Jeremy Coller, CIO of Coller Capital. “It’s simple. Returns! In a low-return world, 86% of LPs are forecasting annual net returns of 11%+ from their private equity portfolios, and a quarter are expecting net returns of 16% plus. Where else can you get that level of net return with such consistency?”
The private equity model
With the dust of the financial crisis having settled, LPs see private equity’s model as having stood the test of time. The majority (62%) of investors think hurdle rates should remain at around their current level for the next 5-10 years (and there is no consensus among those that disagree as to whether they should be higher or lower).
Co-investing alongside GPs has continued to grow in popularity, and is now an indispensable tool in the Limited Partner’s armoury: over half (54%) of LPs have co-invested with their GPs in the last two years (and only one in eleven LPs had not been offered any co-investment opportunities in this period). (Two thirds of North American LPs and half of European LPs say they would like to be offered more co-investments).
On the other hand, only one third of private equity investors invest in GP-sponsored IPOs. This is not principally because they think GP-sponsored IPOs are overpriced (though one fifth of investors do think that), but because many LPs are of the opinion all IPOs are over-priced.
Where are LPs focusing?
According to the Barometer, the ‘typical’ (median) investor expects a 5% risk premium from private equity over public/quoted equity. So where do they hope to achieve this?
On balance, Limited Partners are still reducing their exposure to large buyouts and venture capital, and increasing exposure to growth capital and small-to-mid-market buyouts, in both North America and Europe – as they have been doing for the last few years.
Significantly, a quarter of Limited Partners also plan to begin investing, or to expand investment, in Africa over the next 2-3 years. Although a majority (58%) of investors believe the stimulus administered to Japan’s economy so far by ‘Abenomics’ will create more opportunities for private equity in Japan, most believe the effect will be slight, as things stand.
Market conditions over the next 1-2 years will be increasingly buoyant, investors believe. Over half (56%) of LPs think the rate of distributions from private equity funds will increase over the next 12-18 months – and 42% of investors expect their GPs’ investment pace to increase.
On balance, private equity investors are unworried by today’s volume of dividend recaps. While a quarter of LPs think the current level dividend recaps may be storing up problems for the future, two thirds believe it is appropriate at this point in the cycle – and one in ten investors thinks even more capital should be returned by this method.
On the other hand, investors are more wary about the type of debt being used in buyouts: three quarters believe today’s levels of payment-in-kind (PIK) debt issuance are evidence of frothy credit markets.
Where will innovation come from?
Although investors are seeking to reduce their exposure to venture capital, they do not believe this will be consequence-free.
Over half of private equity investors on both sides of the Atlantic think the weakness of European venture capital is a significant problem, which will impact the growth of the European economy. They are, however, more sceptical about another possible source of innovation: the funding of futuristic tech-based ventures by billionaires. 60-70% of private equity investors dismiss initiatives such as asteroid mining and the Los Angeles-San Francisco Hyperloop as ‘rich men’s vanity projects’.
Additional Barometer findings
The Winter 2013-14 edition of the Barometer also charts investors’ views and opinions on:
- Factors behind lower PE returns since GFC
- Reasons for declining GP co-investments
- The secondaries market