I went to a conference last week and not for the first time in my life felt like I had ended up in the wrong room. Most of the other people there were from family offices, banks and pension funds. In theory they are close relatives, but they were mostly interested in private markets. Apparently, previous versions of the conference had been very heavily private market focused, and they have only recently started branching out into public markets and trying to attract more wealth managers.
So, I was interested to be pointed towards a report just out on UK capital markets (UK Public and Private Capital Markets – UK Finance in association with EY). There has been a lot of talk recently about UK public markets. Outflows, few IPOs, pension fund allocations, stamp duty, UK ISAs, how to attract more investors. These are well worn issues by now, but the report talks more holistically about both public and private markets in the UK and how they interact.
The UK is a global leader in private capital, second only to the US. There are more private equity firms headquartered in the UK than in Germany, France and the Netherlands combined, and there are only slightly fewer venture capital firms in the UK than the other three combined.
Much more than half of the capital for these firms is attracted from overseas. In private equity 43% of funding comes from the UK and in venture it is just 37%. The US is the big global leader in terms of absolute size, but there 87% of private equity deals and 62% of venture deals are domestically funded, with much less inward investment being attracted.
Private equity has grown 11% per year since 2013, venture capital has grown 20% per year and private credit 43% per year. This is the complete opposite of sustained outflows from UK public equity. One consequence of this is companies staying private for longer – as there is more private capital for them to access. This contributes to a slower rate of public IPOs, which contributes to the net reduction in the number of UK listed companies as many have been bought, either by competitors or by private equity.
Pension funds, banks and family offices have been heading this way for some time. To take just one example, a former colleague is the Head of Private Markets at Brunel Pension Partnership – broadly speaking the Local Government Pension Scheme South West pool. He wrote a piece recently saying in the seven years he has been there they have invested £8bn in private markets totalling 33% of their assets, compared to just 15% before the smaller funds were pooled.
Hawksmoor does invest in private markets, but generally through investment trusts. These give us access to asset classes such as private equity, private debt, infrastructure, property and others – which can all add to portfolios, not least by improving diversification. Of course, there are no guarantees of performance for these alternative assets – music royalties and catastrophe bond investments have not been particularly fruitful of late.
We prefer investment trusts because, as demonstrated by the liquidity issues open-ended property investment vehicles have encountered, an open-ended structure is not always appropriate for these illiquid assets. This is not to say there will not still be liquidity-related issues around the close-ended structure too (and this is one of the contributing factors to why many will trade at large discounts to underlying net asset value – ie the share price of the trust is less than the net value of the assets it owns) but in the main we find the structure more suitable.
Even long-standing trusts in these areas trade on persistent discounts to net asset value. The average discount in listed private equity at the moment is 36%. On the one hand this is a potential opportunity to buy assets at a discount to their true worth, but I feel more could be done in terms of discount control.
One of our private equity holdings recently sold a block of their assets in the secondary market at a discount of just 5.5%. Why is there such a wide difference between this and the discount on the trust itself? As ever there isn’t one simple explanation. Transparency, scale, expertise among other things, but I’m not sure this justifies such a wide gap.
In private credit a colleague sent me a list recently showing 35 private credit funds which launched between 2010 and 2019, of which only 9 are still actively pursuing a mandate. The rest have either gone (some in particularly chaotic and unwelcome circumstances) or are in the process of selling their remaining assets and winding down. I had somehow managed to blot many of the names (GLIF!) out of my mind but now find some of these things invading my dreams again.
These funds had a range of different issues, and it would be another Innovation to go into even some of them, but I think a survival rate of 9/35 tells a story, and again I feel more could be done.
The rise of these alternative investment trusts – many appearing in the wake of the financial crisis – mirrors the rise in popularity of private capital in the UK and makes sense in this context as well as the low interest rate environment.
The well-documented problems in UK public equity markets tend to be seen in the context of other international public markets, particularly the US where allocations have increased significantly over the last couple of decades.
However, the private sector picture is very different and pension funds have also seen significant increases in allocations to UK private markets. The UK still has a strong record of attracting foreign capital in particular, and this is important context when looking at UK capital markets as a whole.
Robert Fullerton – Senior Research Analyst
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