Private Equity - Separate asset class?

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AR
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Joined: Sun Nov 07, 2010 2:41 pm

Private Equity - Separate asset class?

Post by AR » Wed May 29, 2019 5:28 pm

I just read an article in techcrunch [https://techcrunch.com/2019/05/29/the-c ... -unicorns/] that there are 452 private companies with valuations of $1B or more and total valuation of $1.6T. Should I consider this a separate asset class? If yes, what are the ways to invest in this asset class? These are private companies and not listed, so these are not available for the general public. Are there mutual funds that invest in them?

mhalley
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Re: Private Equity - Separate asset class?

Post by mhalley » Thu May 30, 2019 12:28 pm

Sounds like a good way to lose money, but here you go ( I like the one with the 9+% er :oops: )
https://www.etf.com/channels/private-equity-etfs

esteen
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Re: Private Equity - Separate asset class?

Post by esteen » Thu May 30, 2019 12:40 pm

mhalley wrote:
Thu May 30, 2019 12:28 pm
I like the one with the 9+% er :oops:
:shock: That might be the highest equity fee I've seen. I didn't know anyone had the gall to charge such a fee!

not4me
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Re: Private Equity - Separate asset class?

Post by not4me » Thu May 30, 2019 3:02 pm

Upfront confession -- I didn't read the article nor review the list of ETFs -- so maybe about to say something misleading. I have wondered before about what opportunities there are & know the terminology can be also misleading. 1st, private companies are generally not owned by mutual funds or etfs. However, and this usually applies to start-ups, when a company is starting the process of going public, it isn't uncommon for some major investors to buy in & let existing owners start to get out of owning it all. May also be a capital raise.

But think about the liquidity issue. These are not at all liquid & mutual funds need to be. So, if a mutual fund should happen to own a bit of a pre-ipo company, it will, by necessity, be a small part of holdings. You can usually see this in micro/small cap aggressive growth -- particularly in tech.

So, review the ETF holdings to see what they hold. It will likely be companies that try & buy IPO issues, lend money to private companies (that is, not a real equity stake), etc. They likely are not "pure" venture capital or mostly private companies.

As for expense ratio, that may be either including some leverage expense or a roll-up of other funds that it happens to own (that is, etf owns shares in another fund...).

Bottom line -- much work to figure out what you are getting & at the end it (likely) won't be anywhere near worth it. I wouldn't.

ypmypm888
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Re: Private Equity - Separate asset class?

Post by ypmypm888 » Fri May 31, 2019 3:08 am

There are two ways to get into the action, one of which is almost impossible, and the other only if you are an accredited investor.

1. Almost impossible: Network your way in. You need to meet the founders when they were still desperate for cash at the tech conferences before everyone else piles into the action. It used to be that you can get in early on companies with relatively good business models. A number of them now go through the incubators and accelerators and the best of these get to pitch at the top VC firms like A16z without needing to raise from friends, family and fools. Once a big name VC fund gets in on the action, your chances of getting into the action go to zero. Every financing round will be crowded with big name investors up until an IPO. They won't need your $. Even if you find a startup that has previously raised from a big name VC fund but is now asking you for capital, most investors will pass - why wouldn't the big name VC fund continue to provide capital to the startup? Is there something in the business which the existing investors know about and therefore won't continue to fund? Existing investors who do not continue fund their portfolio companies especially if they need capital raise big red flags for other potential investors.

2. As a limited partner in big name PE funds (Carlyle, Morgan Stanley, KKR etc): These private equity funds usually invest in later rounds rather than the early rounds, which is VC territory (although the VC space is getting increasingly crowded with big PE funds funding startups earlier in the lifespan of the company for bigger returns). You can invest in these funds as a limited partner - the fees are 2 and 20, i.e. a 2% management fee charged yearly plus 20% of any profits you make, subject usually to a 8% hurdle. By the time these large funds invest, returns are expected to be smaller (4x-5x) over the life of the fund or an IRR of 20% p.a. would be a great result. You are not looking at 100x or 1000x - those belong squarely in VC territory. You can also invest with VC funds, but it comes with a huge risk, more so than a PE fund given that the type of investments. Private banks also provide access to these funds, and they come with their own set of fees. So you pay the 2/20 plus whatever the private banks charge you on top of that.

I have done both types of investments over the course of the past 5-7 years. I exited one (via a convertible note), and I have another investment where I know the founder on a personal basis which is likely to have a liquidity event in the next 12 months or so. My PE investments are not close to an exit - although the investments are in big names, I'll be lucky to get a good return on these investments given that these massive multi billion dollar companies have raised a ton of capital and diluted the hell out of the existing investors.

Of all the capital I've put in, in the past 7 years, I've only seen 10% of my capital back - without a certain timeframe of whether I will see the rest of my capital, if ever. Definitely not for the faint hearted. I was young then and took quite a lot of risk. My mindset then was that I didn't want to regret not having invested in 10 years later that company became a household name. I don't regret my investments (a number of it was on a personal basis to help out some friends), but man, you only put money in these investments which you don't expect to see ever - its like company options (literally a lottery ticket).

Topic Author
AR
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Joined: Sun Nov 07, 2010 2:41 pm

Re: Private Equity - Separate asset class?

Post by AR » Mon Jun 03, 2019 9:44 am

Thanks for all the info. I think there is a terminology issue - I am not referring to private equity companies that are listed. I am referring to pre-IPO private companies that are not yet listed, but are likely to do so. I also did some additional research and found that T Rowe Price New Horizons Fund invests in private companies and that fund is closed to investors. This is in their annual report (link below).
https://prospectus-express.broadridge.c ... srx7x1.jpg

Valuethinker
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Re: Private Equity - Separate asset class?

Post by Valuethinker » Mon Jun 03, 2019 12:10 pm

AR wrote:
Mon Jun 03, 2019 9:44 am
Thanks for all the info. I think there is a terminology issue - I am not referring to private equity companies that are listed. I am referring to pre-IPO private companies that are not yet listed, but are likely to do so. I also did some additional research and found that T Rowe Price New Horizons Fund invests in private companies and that fund is closed to investors. This is in their annual report (link below).
https://prospectus-express.broadridge.c ... srx7x1.jpg
Is it the Fidelity low share price fund that does the same?

It's really tricky to match an illiquid asset class (typical fund lives are 10-12 years, a Limited Partner, i.e. an investor, is committed to 5 years of capital drawdown, and actual final wind up of the fund is 10+ years) with an open-ended investment company structure. How is liquidity provided to investors?

That takes us to closed end funds, and I believe there are some listed in the US market (not sure).

There are a number listed in London, however I believe PFIC rules make them toxic for US investors. Indeed the companies themselves seek to rule out US investors, as I understand it, to avoid onerous SEC rules and the cost of US legal review (which won't protect you anyways).

Some PE Management companies are listed. I believe Blackstone did that? KKR also listed a vehicle in Amsterdam - but then I think took it back in house? Brookfield (there's something about the B's ;-)) Asset Management is, in effect, an alternative assets asset manager (more infrastructure and real estate than PE). It has done well.

You also need to distinguish between LBO funds (buying mature businesses with intention to improve performance and "flip" in 3-5 years) and VC funds. It's the latter that hold the pre IPO Unicorns.

But consider. We are 10 years into a tech boom. 18 years since the tech company crash. There are 100+ Unicorns in the world. Yet the performance post IPO of many of these businesses (Twitter, Snapchat, Uber) is poor. Historical evidence says the Nasdaq outperforms all but the top 10% of VC Limited Partnership interests - and Swensen takes you through why you will never get access to that handful of hallowed funds (Kleiner Perkins XIII or whatever they are up to, etc.). We know Softbank has been pumping huge money into these companies, there's certainly a stage the late stage pre IPO rounds are at crazy valuations, driven up by competitive bidding by investors.

This all smells like if not a dot com crash, then a sharp downgrading of expectations and valuation.

On LBO funds, again access is the problem, subject to the above. And the conditions in the Leveraged Loan funds tell you how slack the market has gotten - almost all the loans (senior debt in PE deals) are now "cov lite" ie reduced/ none of the usual protections for investors - that means if things go wrong, they really will go wrong (there's a strong negative correlation between time in the cycle when an LBO is done, and the returns-- the best deals are done when the economy and stock market are at their worst, and vice versa). Valuations in terms of EV/ EBITDA are actually as high in some auctions for companies as are achieved by listed companies. So I am paying a PE manager 2% p.a. + 20% performance fee to pay 12x for a business I might buy for less on quoted markets?

It's worth reading the Kaufman Foundation's report on their own VC funds. That's pretty depressing.

randomguy
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Re: Private Equity - Separate asset class?

Post by randomguy » Mon Jun 03, 2019 1:02 pm

AR wrote:
Mon Jun 03, 2019 9:44 am
Thanks for all the info. I think there is a terminology issue - I am not referring to private equity companies that are listed. I am referring to pre-IPO private companies that are not yet listed, but are likely to do so. I also did some additional research and found that T Rowe Price New Horizons Fund invests in private companies and that fund is closed to investors. This is in their annual report (link below).
https://prospectus-express.broadridge.c ... srx7x1.jpg
It sounds to me that you don't want to do private equity as much as buy shares in companies that haven't gone public yet. Places like EquityZen and SharePost among others will allow you do do that.

There are a couple of private equity ETFs but I have never looked into what they are holding.

I would hesitate to call any of these investments a separate asset class. I expect them to act like stocks on steroids (i.e bigger swings up and down) and not to see much of a diversification benefit. You also will tend to get pretty nonDiversified (i.e. lots of tech though there were a few energy ones when fracking was hot an oil was pushing 150) portfolio

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