Sky-high secondary pricing? Thank the Fed

Because of low interest rates, access to cheap credit has enabled buyers to finance secondary market deals, sister website peHUB reported, citing fresh research from Cogent Partners.

“The combination of dry powder held by secondary buyers and leverage has led to an unprecedented level of purchasing power in the market,” Cogent said in its 2014 half-year pricing report.

This dynamic is one factor among several that have driven pricing on the secondary market to sky-high levels in the first half of the year. The average high secondary bid for all strategies increased to 93 percent of net asset value in the first half, Cogent said. That is an increase of about 600 basis points from 2013 pricing levels, the firm said.

Pricing was driven mainly by buyout funds, where the average high bid increased to an amazing 100 percent of net asset value.

Secondaries pricing is somewhat tied to the public markets, and also reflects strong realization activity, high levels uncalled capital in the industry and access to cheap and easy credit. “As continued distribution activity buoys investor confidence, secondary buyers are more likely to extrapolate recent history into their near-term underwriting assumptions and drive pricing higher,” Cogent said.

Interestingly, even pricing on venture funds has increased. Venture pricing beat 80 percent of NAV in the second half of 2013, for the first time since 2007. That upward trend has continued, with average pricing hitting 82 percent of NAV in the first half of this year, the report said.

“Venture returns have historically been quite volatile across vintages and managers, but a strong IPO market and sizable strategic acquisitions of VC-backed companies…have helped fuel venture returns and have rekindled investor interest in the asset class,” Cogent said.

With pricing so attractive, the potential seller universe continues to grow, leading to record-breaking secondaries transaction volume, Cogent said.

So far in 2014, about $16 billion has been transacted on the secondaries market, according to Cogent. If activity stays at the same pace, the market will see more than $30 billion this year, which according to Cogent’s numbers would be the highest level ever. (Rival secondaries intermediary Setter Capital has reported the market already beat $30 billion last year.)

Last year, transaction volume hit about $27.5 billion, and about $25 billion in 2012 and 2011, according to Cogent.

The most prolific sellers so far have been financial institutions (including insurance companies) and, interestingly enough, general partners. GPs increasingly have been turning to the secondaries market to find solutions for funds that have lived beyond their contractual terms—to inject new capital and buy out existing LPs seeking liquidity.

Part of this expansion of the seller universe has to do with some institutional investors “de-risking” their illiquid portfolios, according to Cogent.

“It may be tempting to try and ride the crest of the current growth environment, but many LPs realize that if/when a downturn occurs, the current robust liquidity in the secondary market could quickly evaporate, and pricing could fall precipitously,” Cogent said. “These LPs are taking advantage of the current environment to achieve premium pricing on their illiquid assets and capture unrealized gains.”

Chris Witkowsky is editor of peHUB.