Investing in private assets late cycle - is there a case for hedge funds?
At the recent, excellent LAPF LGPS Strategic Investment conference, I was struck that there were eight presentations on investing in ‘alternative’ investment classes of one sort or another, compared to only two on equities and fixed income. Behind this, of course, lies the make-up of the conference sponsors and behind that are fee trends. For example, private equity fees are - if anything - rising whereas pooling has resulted in significantly lower fee charges for liquid asset classes.
Overall, as one presenter stated, in 2017 more money was raised for private debt and equity ($2.4tr) than public ($2.1tr). While the bulk of this has been for mainstream assets, the hunt for returns is leading to considerable fragmentation into increasingly specialist strategies such as structured products, leasing, farmland and specialist property.
Again, this should not be a surprise. The mainstream areas of private credit and particularly private equity are looking crowded, with big money being raised and returns falling. At this late stage in the cycle, smarter managers are therefore looking for niches with better return/risk characteristics. Secondaries have been a popular target but at least in the area of private equity managers are having to pay close to, or even above, par to gain access.
The same presenter commented on the wide range of outcomes in private markets. Here there is a crucial difference: when investing in liquid markets, decisions usually have to be made on incomplete information. The winner is whoever can make best use of the publicly available information in the least time, i.e. before the price has started to react. In contrast, in many private markets there is full information and no time pressure; the key is normally access to good ‘deals’.
In both cases, manager selection is crucial. If we have to choose between a smart or a well-connected manager, we would therefore prefer the first in public markets and the second in private markets.
This leads us to suggest there is a case for investing in hedge funds, in that they are smart investors investing mainly in liquid markets. Although they are often lumped in as alternatives, they should probably be considered in this context as investors in public markets. Hedge fund secondaries are in our view an even more interesting niche at this stage of the cycle. There is plenty of supply, very limited information and almost no competition. All you need to find is the right manager, preferably both smart and well connected! We are happy to make suggestions.