In the latest episode of the Alternative Allocations podcast series, I was joined by Taylor Robinson, partner of Lexington Partners. Taylor and I discussed the current market environment and the opportunities in the secondaries market. We began our discussion by describing what secondaries are, and the role they have in the private market ecosystem.
In a traditional private equity fund, a pension plan, endowment, foundation or family office commits capital to be invested over a period of time (typically seven to 10 years). They are limited partners in the fund (LPs). When the fund manager, general partner (GP), finds an attractive investment, capital is called from the LPs’ (capital calls) original commitment.
The LPs understand that these are long-term investments, but sometimes there are liquidity needs, and they seek a buyer of their ownership stake. These are referred to as a secondaries transaction since the original owner seeks a secondary buyer.
We discussed the extraordinary growth of the private markets and the challenges coming out of 2022. Taylor noted that, “. . . for the last 13 years, coming out of the financial crisis, allocators of capital had a decision to make, which was, where do I place my money to earn more attractive returns than public markets.”
In 2022, we began to see a dramatic slowdown of exits, meaning that many institutional investors who committed capital to private markets lacked liquidity. Because of the fall of most traditional investments, they were often overallocated to private markets, and needed to reallocate capital. This has created an environment where many large institutions are seeking liquidity.
Secondaries fund managers are uniquely positioned to provide liquidity, and can be selective in choosing assets, and the price they are willing to pay. Taylor stated that, “. . . the greatest investment opportunity typically comes when capital is hardest to find. That’s just the way markets function.”
In the last several years, secondaries have grown from a niche strategy to a vital cog in the private market ecosystem. Secondaries managers can provide liquidity to institutions and can select amongst prized assets at more realistic valuations. Disruption creates opportunity.
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WHAT ARE THE RISKS?
All investments involve risks, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested.
Investments in many alternative investment strategies are complex and speculative, entail significant risk and should not be considered a complete investment program. Depending on the product invested in, an investment in alternative strategies may provide for only limited liquidity and is suitable only for persons who can afford to lose the entire amount of their investment. An investment strategy focused primarily on privately held companies presents certain challenges and involves incremental risks as opposed to investments in public companies, such as dealing with the lack of available information about these companies as well as their general lack of liquidity. Diversification does not guarantee a profit or protect against a loss.
An investment in private securities (such as private equity or private credit) or vehicles which invest in them, should be viewed as illiquid and may require a long-term commitment with no certainty of return. The value of and return on such investments will vary due to, among other things, changes in market rates of interest, general economic conditions, economic conditions in particular industries, the condition of financial markets and the financial condition of the issuers of the investments. There also can be no assurance that companies will list their securities on a securities exchange, as such, the lack of an established, liquid secondary market for some investments may have an adverse effect on the market value of those investments and on an investor’s ability to dispose of them at a favorable time or price. Past performance does not guarantee future results.
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