The Pull of Private Equity

Reach Alts
June 13, 2023

The most in-depth research continues to affirm that, by nearly any measure, private equity outperforms public market equivalents.” ~ McKinsey Global (2021)

It is no secret that institutions and the ultra-wealthy have for years been turning to the world’s leading fund managers seeking to strengthen their investment portfolios. These institutions – which include sovereign wealth funds, insurance companies, superannuation funds, endowment funds, and foundations - have been using select exposure to leading private equity funds to inject diversification, potential outperformance and, perhaps the most sought-after goal, uncorrelated returns into their investment portfolio (uncorrelated to listed equities).

These institutions turn to the largest fund managers in the world for help from the likes of The Blackstone Group, KKR& Co, Brookfield, CVC Capital Partners, PGIM, Apollo Global, among others. These firms bring scale, expertise, resources, and long track records to the task of building funds, made up typically of opportunities from hard to source private market opportunities, to drive risk-adjusted outperformance to their institutional clients.

What is private equity?

When most people think of private equity, they think only of venture capital i.e., investing into technology companies in their start-up or early growth phase.  It is a world in which investors are seeking the next technology company to join the FAANGs (Facebook, Apple, Amazon, Netflix and Google). It is a game of high conviction and high risk in the hope of achieving a high reward. Venture capital is in fact only a small slice of the private equity universe, which also includes:

  • Growth capital: investment in companies that are in a major growth or expansion phase.
  • Turnaround: investment in companies that are underperforming or in financial difficulty. The influx of capital helps revive and re-position the company.
  • Buyout: investment in larger companies to help increase profitability (whether in private companies or public companies to take private).

Private equity belongs under the umbrella of ‘private capital’ or ‘private markets’, a broader category that also includes private debt / credit and ‘real assets’ (such as real estate, infrastructure or natural resources).

The Difference between private equity and venture capital
Figure 1


While each category within private capital can comprise funds with a divergent risk profile, in general, as you move towards venture-capital, the expected risk profile along with the expected return increases.

There is some US$9.8 trillion (as at June 30 2021) invested in ‘private markets’ altogether.

The pull of private equity

The pull of private equity has only become stronger over recent years. Part of the reason has been the outperformance relative to listed equity markets. When Cambridge Associates Australian PE / VC managers in aggregate with the ASX 300 on a public markets equivalent basis, it demonstrated the robust returns over the long term (Figure 1). Australian PE / VC managers also remain competitive among their global peers (Figure 1):


Figure 1: Australian PE / VC & Global PE / VC peers (local currency)

(Past performance is not indicative of future performance) Source: Cambridge Associates, 31 March 2021, net fees, expenses and carried interest. Returns presented in local currency terms. See: Australian Private Equity and Venture Capital: Looking Past the Pandemic.

Private equity has often been described as patient money. It invests for the long-term, often ten years or more, and is illiquid meaning it is difficult to exit early. Instead of daily pricing, the pricing of the underlying assets is much less frequent. This takes some of the heat out of short-term investor sentiment. Like baking a cake, it is not always good to open the door to check how it is going. As there is generally higher risk and illiquidity associated with private equity funds, we would generally expect to see additional returns of +3 to +5 percentage points over listed markets over the long term (i.e. a risk and illiquidity premium). The above table demonstrates historically that both the local and US public market equivalent indices calculated by Cambridge Associates have achieved more than the long term expected risk and illiquidity premium. (Past performance is not indicative of future performance. Specific risks may impact on the possibility of such a return in future).

In McKinsey Global’s analysis, the outcome is the same:

The most commonly accepted measure of private equity performance, public market equivalent…performance… finds that, of the 20 vintage years between 1996 and 2015, buyouts in only one vintage year (2008) have underperformed their respective public market equivalent return. This finding holds mostly true whether measured against the S&P 500 or the Russell 2000…” 

With the likely rise of inflation, interest rates, and global uncertainty on the horizon, we have seen an indication from institutions that they are going to double down on their private equity exposure to ‘eke out’ hard to come by performance.  

This wave of interest in private equity and its potential has already started to wash up on Australian shores. For example, AustralianSuper announced last year its plans to double its private equity exposure over the next five years. The Future Fund is speaking of a “new investment order” and has already increased its private equity exposure to $34.5 billion or 17.5 per cent of its portfolio. 

Hon Peter Costello, Chairman of the FutureFund, explained to the AFR last year that the Future Fund would continue to allocate more money to private equity as institutional investors continued to take more public companies private in order to deliver higher returns:

Returns are just going to be much lower, and you’re going to have to think carefully how to eke them out.

The endowment model

Many Australians have grown up with the traditional 70:30 ratio for investment portfolios. This model has encouraged its adherents to put 70 percent of their portfolio into public equities (i.e. buying shares in companies on an exchange like the ASX) and the other 30 percent to remain in cash or bonds.

The purpose of bonds, so the thinking goes, is to function as a defensive anchor, relying on a negative correlation between the two asset classes, while providing yield (even if low). While this has been the assumed wisdom, as noted by the Future Fund, the world looks very different now:

…nominal bond yields are significantly lower so the scope for bonds to pay off is reduced. Investors have ended up paying to benefit from bond rallies rather than being paid. If inflation begins to rise the bond-equity correlation may prove much less beneficial going forward.”

With access to private equity, Institutions on the other hand, due to their size and investment horizon, have had an ace up their sleeve. They have been building less traditional investments into their portfolios over the last 20 or so years. They have been looking to private equity to ‘eke out’ performance and diversity. This ‘endowment model’, so-called due to the fact endowment funds were among the first to systematically adopt such an approach, maintains low liquidity with long-term investments in private equity, and incorporates a lower percentage of bonds than the traditional 70:30 model suggests. Globally, some 14 to 15 percent of assets held by endowment funds or foundations are allocated to private equity.

While not without its critics, even more conservative superannuation funds have been playing catch up in recent years, with 7 – 8 percent of assets so invested, with that likely to increase over the next 5 years.

In the race of institutions to deploy more capital into private equity funds, and a growing interest in using these funds to take public companies private (à la AGL, Ramsay HealthCare, Crown Resorts and AMP to name just a few Australian examples), where does this leave Australian families building their own nest-egg?

In the words of Mr Costello: “How does your mum or dad get access to a private market? They can’t.” 

Democratisation of private capital

Over the last 40 years, the rise of technology has transformed public markets. We have gone from bearer share certificates held in the vaults under the floor of the New York Stock Exchange to Robinhood ,a technology company providing commission-free trading through a mobile app. 

The wave of digitisation has brought with it a democratisation in terms of access. However, as highlighted by Peter Costello, the increasing interest of institutions in private equity, and its ability to take major public companies private, is raising important concerns for a“shareholder democracy”. Access to private markets has historically been constrained even for institutions and certainly not open to individual investors. As a result, or perhaps because of it, many of these institutional-grade funds require a minimum cheque size of US$10 million. However, the opening of access to private markets has started overseas and is now coming to Australian shores.

In a survey by Preqin, it found that one-third of fund managers anticipate a retail-focused investor product in the next five years. This compares with just nine percent today. The growing demand on the part of individual investors to reach private market funds is matched by fund managers keen to diversify their fundraising base and access the deep pool of capital in the hands of individual investors. Apollo Global Management recently noted that the estimated global market for high net worth investors comprises US$178 trillion, well in excess of the $102 trillion in the hands of institutional investors.

What are we doing at Reach Alternative Investments?

At Reach Alternative Investments we see there isa growing demand for individual investors to access top performing private market opportunities and Australia is well-placed to take advantage of this growth.  

There are many great platforms out there helping investors access a range of non-traditional financial investments: you can own a piece of Banksy or be part of a crowd-funded venture for your local craft gin company.  However, access to pure institutional-grade funds, run by the largest fund managers with long track records, stubbornly remains out of reach for non-institutional investors in Australia.

Reach Alternative Investments provides access to the world’s most exclusive institutional-grade private equity and private capital funds run by the world’s leading asset managers. Generally, these funds have only been offered to institutional investors or the ultra-wealthy. For the first time inAustralia, we are providing access to qualified sophisticated investors to such funds for as little as $75,000. We do so by pooling sophisticated investor demand to meet the minimum investment threshold - typically in excess of US$10 million - and use technology to help facilitate the onboarding of and reporting to our investors.

In addition, through our Education Hub we seek to help allAustralians learn more about private markets and how to invest responsibly.  

Reach Alternative Investments' vision is to democratise the world’s leading private capital funds, allowing Australian investors the same level of access and support that an institution receives. We want you, with the help of your financial adviser where needed, to be able to access and build your own investment portfolio that suits your needs and stage of life.

For more information about our available private equity funds, please visit our private equity funds page.