21.
Private investment becomes mainstream
Investor appetite for returns that match the attractive figures of the recent past increases interest in private markets. For large funds, private market investments have often become the principal satellite allocation that lifts their overall return in Lower for Longer conditions, but overcrowding from investors threatens their future returns.
KEY POINTS
- Satellite structures sitting alongside a larger core component remain widely favored by end investors. Increasingly, private market exposures and, to some extent, hedge funds are used as the principal satellite allocations. High active share public market equity mandates appear in this category, too.
- As described in Future State of the Investment Profession, in the next 5–10 years, investors will see an increasing opportunity in private markets but with certain qualifications: “Private markets carry growing weight in capital raising but are disrupted by various failures with opaqueness, illiquidity, and agency and overcrowding issues.”
- This suggests a mixed future for private markets, with investor intentions to increase allocations challenged by valuation and liquidity issues as well as by difficulty in finding attractively priced opportunities.
- Meanwhile, there is increasing attraction for private market capital funding for corporations. The world investment opportunity set is currently approaching $50 trillion of public equity and $6 trillion of private equity (according to Willis Towers Watson 2017a), with the ratio of public to private equity set to narrow somewhat in the next 5–10 years.
- Unlisted markets remain the favored financing model for many businesses. These markets remain particularly suited to growth situations, where governance is seen as preferable; in listed markets, the more rigorous governance aspects might deprive a business of an edge or certain key flexibilities and incentives. The application of blockchain methods can improve some aspects of the uneven administration and governance of private corporations by making complicated ownership interests more transparent and streamlined.
- Satellite mandates are typically in higher-alpha areas. Concentrated portfolios continue to be used, as well as specialized mandates with more likelihood of skill being captured in outperformance. Bigger commitments to the illiquid areas of public markets and wider mandates enable more skill to emerge. This dynamic also applies to hedge fund allocations where long–short is likely to decline, but hedge funds can continue to flourish in less liquid areas where they can put significant resources to work to secure comparative advantages.