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Institutional Investors Increase Secondary Market Sales of Private Equity

Institutional investors sell private equity stakes at discounts amid higher interest rates and liquidity needs, with secondary market transactions hitting $112bn.

By Mackenzie Crow

4/4, 01:26 EDT
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Key Takeaway

  • Institutional investors are selling private equity stakes at discounts, with 99% of sales at or below net asset value, up from 95% in 2022.
  • Public pension funds' allocation to private equity rose to an average of 11%, leading to overexposure and increased secondary market sales.
  • Higher interest rates devalued private equity portfolios, prompting sales on the secondary market, though recent Fed actions may reduce discounts.

Secondary Market Sales Increase

US institutional investors, particularly pension funds and endowments, have significantly increased their sales of private equity holdings on the secondary market, often at discounts. Last year, 99% of these sales occurred at or below net asset value, a notable rise from 95% in 2022 and 73% in 2021, as reported by Jefferies. This trend reflects a shift in strategy due to subdued stock listings and mergers, alongside the need for liquidity to fulfill payout obligations to beneficiaries. Richard Ennis, co-founder of consultancy EnnisKnupp, highlighted the changing perception of private equity's risk and return profile, especially for entities with substantial payout requirements.

Allocations and Overexposure

The allocation to private equity by public pension funds in North America increased to an average of 11% last year, up from 8% three years prior, according to data from Preqin. This rise in allocation has led to overexposure relative to target portfolio strategies for many institutional investors. Christine Patrinos from Monument Group noted the widespread overallocation, which has contributed to the booming secondary sales market. Jefferies reported that the global private equity secondary market saw $112bn in transactions last year, marking it as the second highest year on record since 2017.

Impact of Higher Interest Rates

The increase in interest rates has devalued private equity portfolios, prompting investors to turn to the secondary market, often accepting discounts. This shift is partly due to the improved yields of fixed-income assets, making them more attractive compared to the illiquid nature of private equity. Todd Miller, Global co-head of private capital advisory at Jefferies, mentioned that the buyer community is less willing to pay previous multiples due to the higher interest rates. However, with the Federal Reserve's halt on rate increases and hints at potential cuts, the size of discounts on the secondary market has begun to decrease in recent months.

Street Views

  • Richard Ennis, co-founder of EnnisKnupp (Neutral on private equity):

    "Public pension funds have for many years poured money into private equity on the premise that it was high return and low risk while illiquidity was deemed not to be an issue. They are now discovering that PE is no magic bullet and liquidity does matter for investors with a sizeable payout requirement."

  • Christine Patrinos, Monument Group (Neutral on institutional investment in private equity):

    "By and large, many institutional investors are overallocated to private equity when benchmarked by their target portfolio allocation strategy."

  • Todd Miller, Jefferies (Neutral on the secondary market for private equity):

    "You have a buyer community saying, ‘Wait a minute, interest rates are much higher. I am not willing to still pay the same multiple.’" "There are enough things in LPs’ portfolios that they can price at a smaller discount today and that makes them feel better. There are actually a lot of secondary transactions getting done."