Q&A: What’s driving the demand for private assets?

Why are private assets becoming increasingly relevant now?

Wim Nagler, Head of Institutional Clients, Benelux:

“On the one hand, there's simply more demand from clients. The nature of unlisted assets means that you don't have the daily market dealing, so they tend to be less volatile than public assets.

“Private asset funds are typically structured for large institutional investors, which means that for a big part of the investing population it's virtually impossible to get access. But in the last couple of years we've seen different structures that take away that operational complexity, which means that banks, intermediaries and wealth managers, can actually offer it to their private clients.

“Another driver of demand is regulation. In the past, regulators took the view that this type of illiquid asset is not suitable for retail investors. This is changing now, especially in Europe with the launch of the European Long-Term Investment Fund (ELTIF), or the Long Term Asset Fund (LTAF) in the UK.”

What is private equity?

Richard Damming, Co-Head of Private Equity Investments, Europe: “Private equity are investments into private companies, meaning those not listed on a stock exchange. Actually, most companies are not listed on a stock exchange. It’s only really the big companies that we all know that are listed and those are also the ones many of us invest in. But in reality, the real economy, around the world, is driven by medium-sized businesses, which are often run by families or entrepreneurs.

“At some point in time, there is the discussion around succession. Someone needs to take over that business because the founder is stepping down or taking a different role. Private equity could be this new ownership. It gives continuity to companies.

“Because they're buying types of unlisted businesses, private equity also provides a diversification effect compared to public markets.”

What are the risks of investing in private equity?

Richard Damming: “It is very important to know that there are different strategies you can pursue in private equity. The appropriate strategy for investing in private companies might differ at different points in the cycle.

“For example, early stage venture capital investing is attractive throughout cycles because it's about seed funding and “series A” funding, which is when you're helping an entrepreneur start a business. And this is non-cyclical, as we have seen in past decades. Companies like Tesla or Facebook were actually started in the ashes of the “dot com” bubble. Then you have later stage growth investing, which is so-called pre-IPO investing. This is more cyclical in nature, because you're dependent on the market being open to listings.

“Overall, it all comes down to what to expect from the private market's exposure in a portfolio. If you don’t want to lock up your money for a long period of time, then a semi-liquid solution could be the best solution. But if you are able to give up on that liquidity to maximize the returns, over an eight to ten-year period, then you should go for the non-liquid option and all your capital will be put to work.

“Institutional investors typically give up on liquidity to maximise returns because they have liquidity from other asset classes in their portfolio. That is why they always go for the closed ended, long term funds to maximise returns. They can get liquidity elsewhere in the portfolio.”

What’s the appeal of small and medium companies in Europe?

Richard Damming: “Within buyouts - one of the investment strategies in private equity - you can distinguish between small and medium size buyouts, as well as large cap and mega cap buyouts. The bigger ones are much more linked to capital markets,. Returns are more dependent on leverage, because entry prices are higher and IPO is more often an exit route. Currently we would suggest looking at smaller buyout opportunities because they aretypically less cyclical in nature. Data also show that recession years in the past have been the best years to invest in such strategies.

“In Europe, we benefit from a fragmented market. This means individual countries and languages, produce localised businesses and business models. The market also offers the ability to exploit pricing inefficiencies for small and medium companies which are often sourced from families and entrepreneurs and create value through transformational improvements by investing in and alongside specialist managers.

“Small and mid-sized companies may have greater potential for operational improvements, as these firms usually have fewer resources, less experienced management teams, and inefficient processes. This creates an environment that can more easily foster valuation increases, as the quality of cash flows is improved.”

What are other reasons why many clients are interested in private assets, rather than financial?

Bertrand Dord, Investment Director, Private Assets, Wealth Management: “There often is a human element that drives our clients towards private assets.If you invest early in an unlisted company,you often can get access to its management and may have the opportunity to influence it. A number of small private companies are relatively “pure play”, that is to say, they maybe only have one or a few products and fewer than 100 employees. You show your conviction in investing with them. For example, a number of our clients are doctors, so they are often interested in innovation in the healthcare space. They may have insight on whether new ideas or products are likely to work.

“Lots of our private clients are also former entrepreneurs, so they may want to back younger entrepreneurs, because they understand what it takes to go solo. They might like the service or product of the company and their CEO, and want to get involved to share ideas or give advice.”

What’s the typical allocation to private assets amongst clients?

Bertrand Dord: “Some clients’ portfolios might have up to 30% of their assets invested in private assets. Portfolios can reach a 20% allocation to private equity, but there is a huge dispersion among these numbers. It primarily depends on appetite for risk, liquidity requirements and client’s total assets.”

What are the differences of returns between private and public capital markets?

Richard Damming: “People expect outperformance from private assets because there is a perception of complexity and risk. From a governance point of view private equity, in particular provides very strong protections. You could take control of a company, you take ownership of its actions and, and therefore you actually have much more influence on the investment than on the public side where you are a very small investor in a very large company.

“In private equity there are stronger indications that past performance can guide towards future performance. There are obviously no guarantees, but as an example, our research shows that,for a private equity fund that has been a top performer, there's a higher probability that that fund will remain a top performer in subsequent years. A lesser performer, will more likely continue to be a lesser performer. Investing in the right private equity strategies with the right managers has the potential to deliver greater consistency of return generation.”