Adding return and lowering risk with private assets

However, increased demand means that the low hanging fruit have now largely gone. Highly attractive opportunities remain, but buyers need to be more discriminating in their sector and manager selection. Access to deals has grown in importance as a source of alpha.

A burgeoning market

Private assets have been popular with endowments and official institutions (such as sovereign wealth funds and government pension plans) for some time. However, more recently, they have also been attracting increasing interest from other institutional investors. For example, 60% of European insurers increased their allocations to private assets between 2011 and 2016. Both equity and fixed income attracted inflows and private equity now makes up around a third of their equity portfolios1. Defined benefit pension funds have also been moving deeper into illiquid asset classes. Private debt in particular has come of age in the years after the financial crisis. Only 2% of European pension funds had any money whatsoever invested in this area in 2013, but that figure has now grown to 11%2. Our 2018 Institutional Investor Survey confirmed that this trend is set to continue. Average private asset allocations are expected to increase above 13% in 2018, with growth across all major investor types and regions3.

This shift into private assets poses questions and challenges for uninitiated and experienced investors alike. In this paper we address two of the most common reservations we hear about private assets:

  1. Why lock your money up for years (and sometimes decades) when there are plenty of other assets which don’t constrain you in this way?
  2. Am I too late to invest in private assets? Earlier investors may have done very well but are valuations now too high?

We cover the main categories of private assets, as set out in Figure 1, below. This is not an exhaustive list and a discussion of the full spectrum is outside the scope of this paper. However, many of the principles and arguments introduced can be applied more broadly.

A diverse universe

Firstly, it is important to understand that private assets cover a myriad of investment opportunities. This makes it difficult to generalise, but also provides investors with a diverse range of options. Risk, return and liquidity profiles vary significantly. Some assets offer the prospect of higher returns, others greater certainty of returns.

Figure 1: Private assets – the main categories

1. Investment behaviour report, European Insurance and Occupational - Pensions Authority, November 2017
2. Mercer European Asset Allocation Survey 2018
3. Schroders Institutional Investor Survey, 2018