For François Mollat du Jourdin, entry tickets at 10,000 francs to attract small investors make no sense.
The private markets industry, private equity in particular, has changed a lot over the past twenty years. Yesterday the work of few players and few insiders, today it attracts a much wider range of investors who are less experienced in the constraints of this asset class. Something to be happy about but also to be worried about, with François Mollat du Jourdin, founding President of the multi family office MJ&Cie.
How do you explain the rise of private equity in investors’ portfolios?
Private equity, and in general, all unlisted, alternative assets in the broad sense – real assets and paper real estate in particular – have become very important over the past 20 years. The main reason, linked to demand, is the desperate search for yield in a context of low interest rates as well as a weariness with the sometimes irrational volatility of the markets. The second is to be found in the widening of the offer induced by a profound change in the financing of companies, which have turned away from banks. A significant portion of corporate finance transactions has moved from bank financing to a structuring process led by private market players, who are very present. The corollary of this disintermediation, which raises the question of the future of banks, is the emergence of private equity (and private debt) and, with it, investor appetite.
Of all investors?
Long reserved for a category of investors able to mobilize at least ten million, or even 20 or 30, private equity has become much more popular recently. Alongside the KKRs and other often Anglo-Saxon “usual suspects” who were almost alone in this segment in the early 2000s, new local players have appeared, with competent teams capable of linking the territory. This has helped to develop the interest of investors ready to sacrifice liquidity to avoid volatility and wish to return to basics, to finance a tangible asset. Today, when the industry seems to have reached a good level of maturity and accessibility, the question arises as to whether entry tickets at 10,000 euros are reasonable.
Lowering access to private equity products to such low levels opens the door to virtually all types of investors, including those unfamiliar with the risks inherent in illiquidity. Seduced by aggressive marketing that promises them double-digit returns, they find themselves de facto confronted with a return-risk-illiquidity triptych without being really aware of it, whereas they are accustomed to the risk-return triptych. And there are more and more of these cases, the liquidity poured in by central banks since 2008 having increased their investment capacity. However, the returns promised to these investors are based on valuation levels that are currently very high. From multiples of seven to eight times ebitda, we have moved on to transactions commonly concluded at levels of 13 to 14, which can sometimes go well beyond that, up to more than 25! Value creation becomes infinitely more difficult and time-consuming, increasing exit times – from 7-8 years to over ten years. If ever (or when) valuations return to more reasonable levels, as the Techs have done for example on the listed markets this year, it could prove difficult to deliver the expected results.
Are you worried? What do you recommend?
Discernment is essential in the face of stratospheric valuations and the exceptional performances that we have experienced, in the last two years in particular. So much so that the traditional J-curve of private equity has sometimes disappeared! It is not excluded that the future sees a distorted curve, with phases of growth alternating with troughs. The current situation is reminiscent of the turning point in the hedge fund industry at the dawn of the 3rd millennium. This was the time when alternative management, historically reserved for large, well-informed investors, was largely “democratised”. From a two-digit return promise, we moved on to targets of 6/8% or even 5/7%. The environment had also evolved, regulations were tightened, making it more difficult to generate performance by exploiting market inefficiencies. It is reasonable to wonder whether Private Equity has not reached a stage of this type, where investors will have to revise their expectations and professionals their promises. In any case with equal characteristics! Especially since the structural costs are increasing, which will again be charged to performance.
Does this mean that private equity should remain a “luxury” investment?
A luxury no, probably for a certain profile of investors. Essentially, (large) investors with a long-term view and who can manage illiquidity over time. This profile can afford a significant allocation in private markets (30/40% for some). But is this type of investment reasonable for smaller investors if the return expectations of mainstream funds are all the more melting because they have to bear high structure and distribution costs?