Roy Keenan from Yarra Capital Management shares insights with James Dunn from The Inside Network on the role of active management. The Inside Adviser
After the Hayne Royal Commission many advisers decided to steer away from large dealer groups in favour of becoming self-licensed. In the last six months, however, that trend has taken an abrupt turn.
Exploiting inefficiencies in listed private equity
As expectations for public market returns sour, much attention is being focused on the yield to be found in private equity. It’s still fairly inaccessible for the average investor. But investing in listed private equity – the managers themselves – can provide private equity returns with public market liquidity.
To Barwon Investment Partners, private equity is fundamentally a better ownership model, where through control of the company the general partner can have a “relentless focus” on ROE, and the inefficiencies contained within the sector – its inherent opacity, and limited sell-side analyst coverage – provide strong opportunities for active managers.
“Historically this sector has been quite inefficiently priced by the market,” said James Brown, Barwon portfolio manager. “The market, in our view, has simply applied a price to earnings multiple, and as a result those stocks have traded at peaks when they were generating substantial performance fees without seeing the longer term trend of the management fee earnings.
Barwon values listed private equity businesses based on three criteria: management fee earnings, performance fee earnings, and balance sheet assets.
“The great nature of these businesses and their management fee streams is they’re very predictable, Brown said. “If you think about a private equity fund with a ten year lockup, perhaps there’s one or one and a half per cent fees on committed capital; they know what revenue they’re going to get for that fund for the next ten years.”
“Performance fee earnings are more volatile; they’re very much driven by the performance of the assets they’re invested in… But because it can be more volatile we think it deserves a much lower multiple. Having said that, the bigger groups getting more and more diversified in their platforms, you can build out a view of the likely through-the-cycle performance fees.”
A number of managers also hold a “substantial balance sheet of their own investments” – whether it be the general partner’s commitment to the fund, for seeding new strategies, or the capital they’ve retained on the balance sheet – which can be a significant driver of returns.
“Our view is that it’s absolutely an inefficient sector that provides a lot of interesting opportunities,” Brown said. “There is an element of equity market correlation and equity market beta that comes with this strategy, but ultimately through the cycle the returns are driven by those underlying assets. But because of that volatility that provides chances to rotate the portfolio into new opportunities that have been marked down.”
