From All About Alpha, December 19:
An October paper put out by Strategic Partners Fund Solutions, of Blackstone, argues that (despite
risks and drawbacks) investing in the secondary private equity market
can still be a smart play, offering “accelerated returns with lower
volatility, lower loss rates, and greater downside protection” than the
primary market.
The secondary PE market is the space wherein buyers can access PE
limited partnership positions beyond the initial investment period, and
sellers can access liquidity. This was once considered a reaction to
distress on the sellers’ part, but attitudes have changed. Such a sale
can also be, for example, “a regular portfolio management tool to
rebalance fund exposures and lock in realized gains.”
Some History
Since secondary activity can be stimulated either by a desire to lock
in gains or by a need to unload distressed shares, the size of this
market has increased with “each inflection point in financial markets
over the past decade.” Its growth has also been stimulated by the
increasing sophistication of both buyers and sellers. As an index of
this sophistication, the paper observes that more than half of all
secondary buyers “have the ability to purchase interests across multiple
private equity strategies.”
The SPFS paper identifies the beginning of “truly large portfolio
transactions” in this space to the sale of a $1.9 billion portfolio by
Bank of America to AXA Private Equity in 2010. Over the following three
years, such sales were driven largely by the anticipation of regulatory
reform measures, a trend “capped off by the release of the final draft
of the Volcker Rule in 2013.”
Deal volume reached record levels in 2014. In part these were
multi-strategy portfolios up for sale, some including real estate and
infrastructure stakes. GE Capital, Mizuho Financial, JP Morgan Chase
all sold billion-dollar plus portfolios into this market that year.
Last year, 2016, saw the development of a pricing gap in this market,
so that many announced deals were not completed “as buyers and sellers
had differing expectations.” In the first half of that year, the price
of buyout fund stakes dropped. Meanwhile, “dry powder” was accumulating
to record level.
Thus far 2017 has been a year of “continued volatility, driven by
political uncertainty in many parts of the globe,” including
uncertainties about the new administration in the U.S.
Growth Trends
The authors of this paper believe that there are three key growth
trends that will make themselves felt in 2018. The first is the growing
universe of players. It is expanding on the sell side due to “changing
needs, macro forces and normalizing attitudes.” It is matching that on
the buy side due to the search for yield and the aforementioned large
supply of dry powder. The second growth driver is the broadening of the
kind of assets available for sale, whether classes by maturity, asset
class, or quality. A deepening asset backlog in the primary PE market is
part of this. Finally, a third growth driver is the ever-greater role
of fund of fund managers and general partners....MORE
