Private equity: patient capital rewarded

Even better, as Interactive Investor points out, many private equity investment trusts currently trade at bargain basement prices. Routinely, their share prices understate the value of their assets by as much as 30% or more. Even without any asset price growth, investors stand to make money as the market corrects those valuations.

The other point is these funds have proved themselves over the long term. Looking at returns over ten years to 30 June, the average private equity investment trust delivered a total share price return of 551% – compared to 176% from all investment trusts. UK All Companies funds managed only 107% over the same period.

On the face of it then, the case for investment is compelling, particularly for investors looking to diversify beyond traditional stock market holdings. However, there are counter arguments to consider.

One is that the performance numbers are skewed by the outstanding returns generated by 3i, by far the largest fund in the sector. Without its stellar performance, the sector’s track record would look less impressive – though still strong.

It’s also the case that the private equity industry as a whole is facing challenges; against a volatile market and a tough economic backdrop, private equity firms are struggling to sell assets at the valuations they’d like, which impacts returns for investors.

Certainly, the sector hasn’t always done a brilliant job of explaining itself to investors and their advisers, such as wealth managers – hence that Trustnet headline – particularly during more challenging periods.

It’s also the case that the price you pay for the liquidity of private equity investment trusts is the volatility of the share price.

The emergence in recent years of semi-liquid investment funds offering only periodic redemption opportunities (for example, the Long-Term Asset Fund) provides an alternative structure, though these vehicles are best suited to wealthy and experienced investors and have not yet won over wealth managers.

So where does this leave us? Well, for some time now, analysts have been debating when private equity investment trusts might bounce back from the low valuations on which they mostly trade. But calling the bottom is always tricky – investors invariably get caught out when trying to be clever about timing.

In any case, despite those lowly valuations, recent returns from the sector have still been decent, even putting to one side the outsized contribution made by 3i. Discounts may not have narrowed, but they have stabilised; and in share price terms, private equity investment trusts have outperformed most other sectors over the past 12 months.

Often, in investment, it is tempting to look for the moment that a market or asset class changes direction, but real life doesn’t work like that. There’s often not one single turning point. Rather, it’s with the benefit of hindsight that you see a trend has shifted in one direction or another.

Private equity investment trusts are a case in point. We continue to discuss when sentiment might improve, but the data suggests many of these funds are already on a strong run. Investors who wait for a sudden moment of market realisation may miss out on plenty of upside in the meantime.

So if you believe in the fundamental merits of private equity – the value of long-term exposure to a universe of privately owned companies – and understand the risk profile of the asset class, it makes sense to commit. This is patient capital – the sector’s performance edge, in the past at least, has widened over longer periods – and in that context too, trying to time the market does not feel logical.