Rhode Island looks to secondaries to bulk up, diversify PE portfolio

As Rhode Island prepares to significantly boost its private equity pacing, the state may use the secondary market to avoid concentrating too much of its portfolio in the next few vintage years.

Rhode Island State Investment Commission, which manages $8.18 billion in state pension assets, plans to increase its overall annual commitments to nearly $300 million, up from a previous range of $100 million to $120 million, according to senior investment officer Jonathan Popielarski, who spoke at Buyouts Insider’s recent PartnerConnect East conference in Boston. The commitment pacing is a result of the state’s recent decision to increase its private equity target to 11 percent from 7 percent.

“We’re trying to do close to $300 million [in annual commitments], so clearly we’re going to be overweight the next few vintage years,” Popielarski said.

Rhode Island’s recent focus on emerging managers and lower-middle-market funds allowed it to build relationships with promising GPs, and the state may seek to use secondaries to bolster those existing relationships as the GPs grow.

“As they become more institutionalized, maybe they want to rationalize their LPs base, and there may be an opportunity for us to, as we go into a Fund IV, to buy a Fund III on the secondary market,” Popielarski said. “That’s a way for us to get access to a very high quality fund that’s a little more attractive, and we can get our exposure up for that new target.”

Rhode Island could also see opportunities arise if public market volatility causes other limited partners to seek to sell off portfolios, although it isn’t counting on it. Popielarski said he’s heard through the grapevine about other public pensions that are at their allocation limit to private equity, and might fall victim to the  “denominator effect” and end up over-allocated.

Rhode Island isn’t planning any secondary sales, although it has at least thought about cleaning out its “massive roster” of older funds from before the great financial crisis.

“It’s a bit of an administrative burden, but we decided at this point, to just ride it out, and eventually it will tail off,” Popielarski said.

So far, keeping those older funds has been easier than selling them, and it is sometimes more profitable to do nothing, Popielarski said. A few of the the older funds have seen a “late pop,” especially in the older venture funds that can be boosted by a single nice exit, he added.

The risk of a recession, and sky-high valuations, also loom over Rhode Island’s expanding PE allocation. To avoid buying in at the top of the market, the state is looking to sector specialists and lower-middle market funds, where good managers can work with founders or industry connections to source deals without getting caught up in bidding wars, Popielarski said.

“We’re really trying to find groups that can somehow uniquely source deals below the current market prices, move those companies up through operational value-add, and sell them into the current frothy market, hopefully,” Popielarski said.

Action Item: View the materials from Rhode Island’s latest investment meeting here https://bit.ly/2WsVxaP