The equilibrium between private and public markets has undergone a major shift, which carries significant implications for companies, firms, and investors, according to EY.
In a recently released report, EY noted tremendous growth in the private equity (PE) industry over the past 20 years. Citing data from research firm Burgiss, it said that the number of active buyout, real estate, and credit funds grew from just over 900 to over 5,500 in the period between 1998 and 2018.
“Net asset values have grown even faster — more than 15-fold, from about US$130b in 1998 to roughly US$2t today,” it said.
At the same time, public markets have experienced a measure of stagnation. While the market capitalization of U.S. public markets as a percentage of GDP has stayed roughly the same since the mid-‘90s, World Bank data has shown a near-50% decrease in the number of publicly listed companies in the U.S. — from a peak of approximately 8,100 in 1996 — with similar trends apparent in much of Europe.
“Today’s public markets are increasingly defined by smaller numbers of larger companies that are further along on their maturity curves,” the report said, citing increased M&A activity as a contributing factor. It also highlighted a decline in IPOs as young companies face a shrinking need to raise large amounts of capital and a relatively more manageable burden in working with private investors.
“As a result of PE’s sustained outperformance relative to public markets, the last decade has seen steadily climbing demand from a growing array of investors,” EY said.
Figures from Preqin show some two-thirds of institutional investors having some allocation to PE, with an average allocation of roughly 10%. And in a survey of those investors conducted in H1 2019, the firm found that 46% of LPs expect to increase their PE holdings. With pension funds and insurance companies reportedly holding about US$8 trillion in U.S. equities, a 1% shift toward PE would translate to some US$80 billion in additional capital commitments.
“Nontraditional” investors could also play a more significant role. Citing the household sector’s mammoth role in U.S. equity investment, with a footprint of nearly US$15 trillion in assets, a small rotation in allocations could meaningfully shift the equilibrium further toward the private market.
“While the vast majority of households are not accredited or qualified investors and thus have no direct allocation … the volume of discussions around allowing greater access for retail investors is growing,” the report said.
While capital flows into the asset class show no signs of abating, EY said the PE firms will be increasingly pressured to seek new growth avenues. “In total, we estimate that the aggregate investable universe in the US for large and middle-market buyouts is somewhere in the neighborhood of US$5t,” it said. “As such, while the traditional buyout space will remain core to PE, some of the industry’s most attractive opportunities are likely to come from segments of the market that are less well-developed.”
The report cited figures from the Emerging Markets Private Equity Association (EMPEA), which showed activity in emerging markets representing 23% of global PE investment activity in 2018, compared to only 9% a decade ago.
Going outside the equity stack could also be promising: with traditional banks shrinking from lending after the 2008-2009 financial crisis, commitments in the private credit space have swelled from around US$240b 10 years ago to US$837b as of September 2018, reported Preqin.
“Investors appreciate the diversification benefits of the space as well as the oppor tunity to access returns (and risk profiles) that are generally higher than their other fixed-income portfolios,” EY said.
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