You do not have to look very far to see just how dominant a force private equity has become during the pandemic.
Against a backdrop of low interest rates, institutional investors keen for higher yield returns have piled money into private equity firms which promise generous returns. The low-rate environment has also made borrowing, which is central to the model, significantly cheaper.
Private equity firms have garnered a reputation as vultures, but the sector could be a good opportunity for ordinary investors amid public market volatility.
Aerospace company Meggitt has been the target of a bidding war by private equity companies amid a spate of takeover moves in the UK
Is private equity a good investment?
Much has been made of the ‘dry powder’ – the cash private equity firms are sitting on – that accumulated during the pandemic.
Research from KPMG shows it has been rapidly deployed. Investment in the first half of 2021, both in terms of number of deals and value, has reached levels not seen since 2017. Some 785 deals worth a total of £74.7billion were completed.
The UK has become a particularly popular target as buyout firms look to capitalise on low valuations. Targets have included aerospace manufacturer Meggitt, defence firm Ultra Electronics and supermarket Morrisons.
But these takeover bids represent just a segment of private equity activity.
‘PE deals often involve PE businesses backing firms that are already private, such as supporting a management buyout from the founder,’ says Jason Hollands, managing director of investment platform Bestinvest. ‘These are incredibly consensual, with the people running the business meeting a selection of potential investors and choosing who they want to go with.’
Because of the way deals are structured, management teams are incentivised to create value for investors over a few years, which some critics say creates short termism.
‘While PE has an image problem and is often associated with cases of “asset stripping” a business, many PE investments take a “buy and build” approach, funding a business to grow rapidly,’ says Hollands.
While private equity may be an attractive option for those looking to reduce their exposure to market volatility, it has often been accused of being an opaque and murky sector for the average investor.
The minimum investment varies from fund to fund, but PE funds are generally structured as limited partnerships that last for a fixed number of years.
Limited partners, which are the third party investors, are liable for up to the full amount of money they invest in the fund – which is usually over $5million for institutional investors like pension funds and university endowments.
Ultra-high net worth individuals, who tend to invest six-figure sums at the very minimum, also don’t need the same protections or ability to access their money as the average personal investor.
There are, however, some ways for ordinary investors to access private companies, diversify their portfolio and capitalise on some of the high returns from the funds.
Listed private equity firms
Investing directly in firms which manage private equity investments can be risky during periods of volatility.
But they might be a decent prospect if you are investing for the long term, and don’t have deep enough pockets to buy into a fund.
However, listed management firms are few and far between – the recently listed Bridgepoint joins a handful of private equity managers including Draper Esprit, Intermediate Capital and IP Group, as well as the investment trust 3i, which behaves more like a PE manager.
‘The shares of London listed private equity firms are much more volatile than the average private equity investment trust,’ says Mick Gilligan, partner at Killik & Co.
‘Apart from IP Group, all the larger listed PE firms trade at sizable premiums to their book values, whereas a few of the larger PE investment trusts still trade on discounts,’
‘So, a combination of the two is likely to be more appropriate for the more cautious private equity investor.’
Investors who want to increase their exposure to private equity but are worried about market volatility may want to consider investment trusts.
Some investors may already be inadvertently investing in private companies as investment trusts that have previously been focused on listed companies build exposure to them.
How else can I invest in private companies?
VCTs are investment companies listed on the London Stock Exchange which raise money to invest in young, usually privately-owned companies or those listed on Aim. Investors can claim up to 30 per cent income tax relief on the amount they have invested in a VCT, provided they hold the investment for at least five years. Any dividends or gains on the shares are also free from tax.
SPACs were all the rage at the beginning of the year, with a handful of UK companies opting to merge with one to go public. They raise money from investors through a public listing with the sole purpose of acquiring an existing company. The Financial Conduct Authority, keen not to miss out on the SPAC frenzy, has been consulting on rule changes for these blank-cheque vehicles.
Hollands warns SPACs are risky and controversial. ‘The sponsors involved with them – which have included celebrities and politicians, as well as wealthy financiers and business people – also get a big chunk of shares on the cheap.’
F&C, the UK’s oldest investment trust, has just over 8 per cent in private equity funds while Scottish Mortgage has 21 private equity investments representing 21 per cent of the portfolio.
Investors who want to increase their exposure can put money in a portfolio of underlying limited partnerships – essentially a ‘fund of funds’ approach which will give them indirect access to a range of funds.
BMO Private Equity Trust and HarbourVest Global Private Equity are examples of this type of trust.
An investment trust can trade at a premium or discount to the value of its portfolio – read more here.
Matt Brennan, fund manager at AJ Bell, says: ‘An investment trust is able to raise additional money, so can also quickly take advantage of market opportunities. A direct private equity company can do the same, but this often takes a bit longer.’
One of the biggest benefits of investing in a trust is diversification.
‘The manager’s job is to do the due diligence and back the best teams, but also to ensure the portfolio is diversified across different strategies and regions,’ says Hollands. ‘Like most “funds of funds” you are paying two tiers of costs but the benefit is diversification.’
There are also investment companies that invest directly in individual deals rather than funds, like HGCapital which puts money in European software and tech companies. One of Bestinvest’s preferred funds is Syncona which backs early stage life science and healthcare companies.
These types of trusts are significantly riskier than the fund of funds approach because they focus on one or two specialist areas.
For investors who prefer a passive option, the iShares Listed Private Equity ETF provides exposure to 66 firms, half of which are based in the US. Among its top holdings are Blackrock, 3i and KKR.
An ETF can offer as much diversification as an investment trust but for investors interested in private equity they may prefer to be more selective.
‘Diversification is partly about the number of holdings, but an active approach can also make sure the portfolio is exposed to a good mix of strategies (buy-outs, growth funds, venture capital) as well as different vintages so that you have a blend of younger funds making new investments, as well as those that might be nearing maturity,’ says Hollands. ‘A passive approach will just weight you to the largest listed private equity firms and funds’.
|Name||Ongoing charge (%)||NAV/share||Total assets||Gearing (%)||Discount (%)||Dividend yield (%)||1Y Share Price Total Return Performance (%)||3Y Share Price Total Return Performance (%)||5Y Share Price Total Return Performance (%)||10Y Share Price Total Return Performance (%)|
|Apax Global Alpha||1.57||2.28695||1,123,120,936.97||0.00||-4.89||4.67||41.70||92.21||128.83|
|BMO Private Equity||1.23||4.78031||424,643,189.08||18.29||-8.06||3.67||37.28||49.87||118.23||309.75|
|Electra Private Equity||1.80||5.14300||200,439,831.05||0.00||14.33||0.00||204.27||40.35||114.97||468.86|
|HarbourVest Global Private Equity||0.41||29.21000||2,332,783,216.06||0.00||-19.72||0.00||48.42||74.48||154.20||400.49|
|JPEL Private Equity||1.29||2.00000||165,035,538.00||0.00||-16.25||0.00||56.54||16.60||77.47||86.11|
|NB Private Equity Partners ZDP 2022||2.33||1.21212||1,100,099,295.26||7.11||0.65||0.00||6.55||8.93|
|NB Private Equity Partners ZDP 2024||2.33||1.14254||1,100,099,295.26||13.85||0.21||0.00||8.53||9.57|
|NB Private Equity Partners Ord||2.33||19.38667||1,100,099,295.26||21.02||-20.31||3.38||78.93||58.93||130.26||346.13|
|Oakley Capital Investments||2.46||4.45504||795,669,858.88||0.00||-20.99||1.28||38.41||92.85||209.73||346.13|
|Princess Private Equity Holding||1.79||15.24000||1,053,863,800.32||0.00||-11.58||4.30||58.19||58.40||132.28||334.01|
|Standard Life Private Equity||1.14||5.68232||873,635,641.32||0.00||-19.84||2.99||47.41||52.88||130.79||301.40|
|Symphony International Holdings||2.98||0.79150||409,059,345.72||0.59||-44.41||6.87||57.14||-35.58||-17.67||3.03|
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