Last week, leading figures across the private equity industry convened at the SuperReturn North America conference in New York City. It was a moment to reflect on the state of the industry, and of course, catch up with both general partners (“GPs”) and limited partners (“LPs”) in attendance.
The two-day conference was held against the daunting backdrop of persistent inflation, sharply rising interest rates, potential recession, the war in Ukraine, and highly consequential geopolitics being played among the world’s leading economic powers.
The common thread connecting most conversations, whether on stage or in the hallways, was how these forces are impacting deals, valuations, fundraising, and portfolio company operations—and would continue to do so for quite some time.
Yet, the mood seemed to be more constructive than downcast, with investors emphasizing what would work in this new environment; and for many, it was “back to basics.”
In case you missed the conference, below are a few topics that stood out:
Inflation casts the longest shadow
Just 30 minutes before the events kicked off, investors and other market participants around the world were jolted by the August CPI report, which unexpectedly showed headline inflation rose 0.1% on a monthly basis. By the end of the day, the S&P 500 was down 4.3% and the NASDAQ dropped 5.2%, as investors adjusted their views on the persistency of inflation and the course of interest rates.
While private markets avoid the minute-to-minute gyrations felt in public equities, the impact of stubbornly high inflation and the potential path of interest rate increases was a dominant topic of conversation. Panelists remarked how many in the private equity industry had not yet invested through this type of environment, which was last seen decades ago. For investors under the age of 45, inflation has been mild and interest rates have generally been at, or close, to zero, for most of their working career.
“The beta trade is over”
As more than one panelist put it, “the beta trade is over.” What was once a frothy market—with a vast amount of capital chasing deals with little revenue and weaker unit economics—has been replaced by a much greater focus on value creation plans and building durable, long-term businesses.
Opposed to relying on a market with essentially a zero cost of capital, the new interest rate regime has put pressure on portfolio companies to be more efficient and boost their profitability to grow. Additionally, speakers commented that companies are now more deliberate about coming to market given the impact being seen on valuations.
That said, panelists acknowledged the environment was still good for investors committed to category leaders and mission-critical companies—especially those embedded in the day-to-day workflow of customers who can become more efficient by using their product.
A “tidal wave” of new capital
With financial advisors still meaningfully under-allocating to alternative asset classes, the democratization of these assets was touted as one of the biggest trends in recent reallocation history.
Panelists remarked that even a slight increase in average allocation to alternatives would generate a “tidal wave” of new capital. To position themselves to win in this channel, many firms are identifying it as a top priority, building up dedicated teams and new technology, and creating products with a user-friendly wrapper.
Speakers looked to the next several years as a contest among investment managers to position themselves as the brand of choice within the private wealth channel.
A makeover for secondaries
Between 2001-21, the secondary market has grown from $2 billion to $134 billion, according to UBS Global Asset Management. And some firms, like Whitehorse Liquidity Partners, are predicting that the market can grow to more than $1 trillion by 2030, fueled by more entrants and an uptick in the pace of transactions.
Hailing a new era for secondaries, panelists pointed to not only the growth and innovation, but also the reputational sea change. What was once viewed less favorably--selling of private equity stakes on the secondary market—received a warm reception among many speakers on stage. Panelists pointed to the importance of providing liquidity in what is otherwise a more illiquid market. That said, outside of the conference, not all LPs agreed—signaling that the conversation around secondaries was still ongoing.
New communications imperatives
Each of the discussion points are also instructive about how firms should communicate going forward, and to whom.
For example, with a greater emphasis on value creation, the industry should be more proactive in communicating the benefits of being PE-owned—to not only the management teams, but also the day-to-day employees who represent the company’s human capital. And in the private wealth channel, the industry is speaking to a newer stakeholder—the financial advisor—who by-and-large still needs to be convinced about the role alternatives should play in their clients’ portfolios.
As the industry navigates the changing landscape, it continues to be clear that a more proactive and conscientious stance will help seize the opportunities inherent in the times ahead.
Tim Quinn is a Senior Vice President in Edelman Smithfield’s Financial Services Practice