The State of Private Equity in 2020
2020 has been a difficult year for investors. The stock market plummeted in March, only to bounce back by Q4. Some industries that have historically performed well have been badly disrupted, and no one knows exactly when things will be back to normal. To complicate matters further, we’re on the eve of one of the most contentious and potentially impactful elections in recent memory, the result of which will likely have profound implications on every facet of the financial sector.
One area of wealth management that hasn’t received as much attention during this tumultuous summer is private equity investing. While it’s true that private companies have been hurting too, there’s reason to believe that now is a time of opportunity for investors looking to expand their portfolios into private equity. Here’s what to keep in mind.
The Pros and Cons of Private Equity
Investing in private equity requires a very different approach to investing in the stock market or other traditional investments. Some things to keep in mind include:
- Negotiating power: when you invest in the stock market, you have no control over the price you pay at any given time. The market sets the price of a given stock, and your agency is limited to when you buy and sell. With private equity investments, everything is negotiable. If the initial offering isn’t amenable, you can negotiate fees, the minimum commitment, or your stake with your fund manager.
- Choosing your manager: some fund managers make their money by taking advantage of leverage, which carries high risks and high rewards. Others generate returns by making significant improvements to the companies in which they invest. When you choose a private equity fund, you can choose one with a manager whose strategy suits your own.
- Liquidity: while stock sales can be processed in a matter of minutes, private equity partnerships are often measured in years or decades. If you can’t afford to keep your funds tied up for 10 years or more, private equity might not be your best option.
- Minimum investments: most private equity firms come with a minimum investment of at least seven figures, which might not be compatible with your previous plans for asset distribution. Combined with the illiquidity of PE funds, you may prefer to allocate your funds in more flexible investments.
The Coronavirus and Private Equity
The COVID-19 pandemic has caused global economic disruption on an unheard-of scale, and few industries have been immune to its effects. While the most newsworthy impacts have been to the stock market, which saw a precipitous drop in March followed by a slow recovery, private companies have not been immune.
Three of the six largest private U.S. companies — Cargill, Albertsons, and Mars — are in the food industry, which was upended by depleted workforces, supply chain disruptions, and health concerns. We may not see complete financials until next year, but it seems unlikely to be coincidence that Cargill, the nation’s largest private company, announced in June that they would no longer be disclosing quarterly earnings.
The coronavirus has also impacted unrelated industries very differently, highlighting the advantages and disadvantages of single-sector funds versus generalist approaches. While companies in the travel and hospitality industries might have been hardest hit, they might also provide the greatest opportunity for growth as the world recovers from this downturn.
Why Private Equity is Worth Looking Into in 2020
Over the last 20 years, through December 2019, private equity funds returned an average of 11 percent annualized return compared with 6 percent for the S&P 500 Index. While past performance shouldn’t be taken as a guarantee of future results, that period does include the Great Recession of 2008-2009, indicating that private equity has weathered financial downturns as well as the stock market.
Now, private equity investors are faced with a unique opportunity to not only generate significant returns on their investments over the next decade, but to stimulate the recovery of the American economy with capital injections to struggling businesses.
To do so, investors will have to be discerning not only about the sectors and businesses they invest in, but also about the managers and strategies of the funds involved. Funds that leverage debt can generate good returns in the short term, but those returns are much more pronounced in a healthy economy. In times of economic stress, such an approach is much riskier and can dampen long-term growth.
Instead, consider fund managers whose goals are to create real value for the businesses in their portfolio, either through organic growth or through strategic acquisitions, professionalizing processes, and enhancing management teams.
Talk to First Western
If you’re looking for a stable long-term investment that can also help to stimulate growth in your community and the country at large, private equity might be a good option. At First Western Trust, we’ll take a comprehensive look at your finances, goals, priorities, and values to generate a wealth management plan that’s tailored for you. Get in touch with First Western today!