Private equity is an asset class that has traditionally been available only to very large, sophisticated institutional investors. But this is changing rapidly—a trend we expect to accelerate in 2020.
There are a number of late-cycle risks in the private markets today, many of which result from a combination of high purchase price multiples, high leverage and increased competition at the larger end of the market. The sheer amount of dry powder in the market is exacerbating the problem and driving concern among investors. As a result, we’re seeing compressed deal timelines, accelerated due diligence periods and adjustments to business earnings—all of which create a climate of stretched valuations, or deals that have essentially been priced to perfection. Despite being somewhat typical late-cycle behavior, this is a risky trend as we think about the ability of businesses to withstand a downturn from both a performance and leverage perspective.
PE DRY POWDER HAS GROWN SUBSTANTIALLY OVER THE LAST DECADE
PE: ASSETS UNDER MANAGEMENT (2009-2018)
Source: Preqin. As of December 2018.
Despite the risks, there are a number of bright spots. Looking across the private equity markets, we are seeing three particularly compelling pockets of opportunity. The first is at the lower end of the private equity market, particularly with emerging managers. As we mention in our podcast episode, Private Equity: Emerging, Women & Diverse Managers, these are often first-time private equity funds that have spun out from larger institutions. Often, these funds have proven track records and, importantly, exhibit a strong hunger and desire to succeed—that tends to be strongly aligned with their investors. Another interesting opportunity we’re seeing today is in private equity co-investments, which can provide access to highly coveted deal flow.
Within the real assets space, the metals and mining sector offers an interesting opportunity, in our view. Given where commodity prices are today and where they’ve been in recent years, we think there is attractive value in what we refer to as later-stage development deals. In particular, we are seeing potentially attractive gold, copper and other high-quality base metal projects that have been under-capitalized for an extended period of time.
We think 2020 will bring with it the continued democratization of private equity. Private equity is an asset class that has traditionally been available only to very large, sophisticated institutional investors. But in the past 10 years, private market investment opportunities, including private equity, have become increasingly available, whether through 40 Act funds for retail investors or interval funds for everyday investors. One big contributor to this has been the strong historical performance of the asset class. And to the extent that it continues to outperform, we will likely see a continued push to make it available to everyone.
To be clear, this doesn’t necessarily mean we will start to see private equity investments within our 401(k)s. But we will likely see interesting and innovative structures that provide broader access to the asset class. While we are cognizant of the risks that come along with that—such as liquidity, valuations and the complexity of the market—we think the space is a good diversifier overall, and may make big strides in 2020 among a less traditional investor base.
This commentary is provided for informational purposes only and should not be construed as investment advice. The opinions or forecasts contained herein reflect the subjective judgments and assumptions of the investment professional and do not necessarily reflect the views of Barings, LLC, or any portfolio manager. Investment recommendations may be inconsistent with these opinions. There can be no assurance that developments will transpire as forecasted and actual results will be different. We believe the information, including that obtained from outside sources, to be correct, but we cannot guarantee its accuracy. The information is subject to change at any time without notice.