A theory in search of evidence in mainstream PE reporting

I got into a discussion on LinkedIn this week about a Reuters article that proclaimed an alleged flood of secondary market selling is a sign that limited partners are growing desperate and disillusioned with private equity.

“The wave of selling is the latest of several signs of stress in private markets and is another signal of investors starting to fall out of love with ‘alternative assets’ that only recently were drawing in cash,” the article proclaimed in its all-important contextual second paragraph. See the article here.

A few things felt off about the article: while the market is still crammed with inventory in terms of LP stake sales and GP-led deals like single-asset sales (and has been all year), not much is actually reaching the finish line. That’s the big point to remember here – inventory is out there, but deals actually closing, and closing at the size first envisioned, is a much more challenging prospect.

Completing deals is challenging in this market, where buyers and sellers are separated by a widening pricing expectation gap. Buyers are being pickier than ever in terms of what they invest in, especially considering fundraising for most PE firms is tougher in today’s market. And many sellers are simply testing the market, feeling no forced need to sell. Once they get a price, invariably lower than expectations, they back off to wait until the market improves, or they sell one-off stakes in certain funds where a buyer may be willing to pay above market.

There’s also no sense that LPs are falling out of love with alternatives. At least according to recent surveys, LPs remain fully engaged with private markets and are expecting to maintain their exposure, if not continue to boost it. We know from our reporting that many public systems are slowing their commitment pacing as a way to deal with overweighted exposure to the asset class and slowing distributions. But that’s not the same as trying to get out of PE.

Here’s an example: Coller Capital’s winter 2022/2023 LP sentiment survey featuring 112 LPs found that 36 percent of North American LPs think PE is more attractive than public markets in today’s volatile environment, compared with 11 percent of North American LP respondents who found PE relatively less attractive. (Even as most LP respondents in the survey also said the macro environment and inflation post significant risks to PE returns.)

The LP/GP relationship is one of constant flux and balance. Returns are the big factor (kind of like money issues in a marriage), but other characteristics contribute to the strength or weakness of a PE relationship, including team turnover, strategy drift and transparency/reporting.

There are times when that relationship breaks down, but I’ve found over my time covering this asset class those situations have always been unique to the parties involved, and not signs of erosion in the overall industry. Could that come if PE stops delivering on its promise of beating public market returns? Sure … and these recent vintages, 2020, 2021, 2022, are going to provide strong evidence about which firms deserve future support from LPs and which were simply riding the markets.

None of which means LPs overall are heading for the exits because they’ve fallen out of love with PE. The conflation in this article of a potential – and I stress, potential – wave of secondary sales with a waning interest in private equity is a stretch and looks like a theory searching for evidence. Let me know your thoughts!