Rising interest rates are destabilising listed markets. Equities have fallen by around 20%, while the bond market has seen declines of almost 15%. “Meanwhile, the performance of private markets remains positive,” according to Willian Guilloux, partner and head of the investment team at Cedrus & Partners.
To the recurring question of whether a sharp rise in interest rates will cause the private market bubble to burst, he answers “no”. “What we are seeing is that if our clients--large institutional and long-term investors--are shifting their portfolios, it is from equities to fixed income. In terms of private markets, institutional investors are still in a holding pattern, but not out.”
What he is also watching carefully are exits. “The private markets industry operates on a permanent reinvestment model. Every time there is an exit, there is reinvestment elsewhere. The fear of general partners is that if exits seize up, the asset raising market will seize up. This could cause turbulence.”
A diversification tool that makes sense
In the meantime, he believes that private markets remain a “powerful” diversification tool for investors. “It makes sense to have them. Even more so than before this crisis because we can see that it offers a form of temporal resilience and that, in terms of risk, these assets are less exposed to market beta. Their risk is a specific risk, linked to a particular industry which, by definition, is better controlled by managers.” And while Guilloux expects valuations to fall, this will be limited.
That outlook holds, even though he recognises that the private market has never been tested like this before. “Over the last 10 years, we’ve had a lot of wind at our backs with positive performance for everyone. Rates were low and money was cheap. It was hard to tell who was good and who was very good.”
Indeed, over the past 20 years there has been inflation in multiples as rates have fallen and therefore very high levels of performance for private markets versus listed markets. “Across all regions and time periods, private markets have outperformed listed markets. Over the last 10 years, the annualised return of the S&P 500 is 15% and the Eurostoxx 50 8%, while private markets delivered 18% net.”
Towards lower returns
He now expects private market returns to fall to around 10%, well ahead of equities. “Less exuberant, though the market will remain resilient.”
He has been advising clients to lower their return expectations, to be even more selective “in a world where the cost of money is rising” and to diversify sources of premium. And he recommends looking at secondary private markets--”a counter-cyclical strategy”--and infrastructure--“long-term growth investments with good inflation positioning”.
This article was published for the Paperjam+Delano Finance newsletter, the weekly source for financial news in Luxembourg. Subscribe using this link. Read the original French version of this article on the Paperjam site.