Are advisers and wealth managers missing an opportunity in private equity?

Are financial advisers and wealth managers missing a trick by not making better use of the listed private equity sector for their clients? A new report from Edison suggests they just might be – its analysis of the shareholder register of private equity investment companies reveals private client brokers and more sophisticated retail investors are significantly under-represented compared to their holdings of closed-ended funds in other sectors.

Edison’s suggestion is that the investment companies themselves haven’t done enough to sell the sector to advisers and their clients. “Wider engagement with the investor community could help move listed private equity more into the investment mainstream,” it argues. Still, savvy advisers and wealth managers may not wait for the sector to come courting, for these are funds that should be attractive to many investors.

The bottom line is that private equity gives investors access to potentially high-growth companies whose shares are not available in public markets. Over time, these companies can deliver significant value – over the past 10 years, the average UK private equity fund has delivered an average annual return of around 15 per cent according to the British Venture Capital Association, almost twice the return delivered by the FTSE All-Share index over the same period.

Unfortunately, however, traditional private equity funds are usually off-limits to all but the wealthiest investors, requiring minimum investments of as much as $1m. The private equity investment company sector, with shares traded daily on a stock exchange, like any other investment company, therefore offers most investors’ the best chance of accessing this asset class.

Edison points out that returns from listed private equity funds have been lower than for the asset class as a whole. But while the average annual return over the past 10 years has been around five per cent, that period included the financial crisis, where a number of funds where particularly adversely affected. Over the past five years, the average annual return is more like 10 per cent.

“For investors, listed private equity is an accessible, liquid way to invest in an attractive asset class without the complexity and funding risk of direct private equity investing,” argue Edison’s analysts. “There are a range of funds and strategies available giving the investor choice and the opportunity to diversify.”

Leaving aside the fundamental attractions of private equity, there may also be a valuation opportunity right now. Despite the sector’s strong performance in recent years, the relative lack of demand for private equity investment companies has seen shares in many funds slip to wider discounts to the value of their underlying assets. Many funds are currently trading on discounts of more than 20 per cent.

More interest from financial advisers and wealth managers would boost demand and start to bring discounts down, providing early investors with an added performance kicker. Corporate action may also come into play – the recent bid by HarbourVest for SVG Capital is one sign that professional investors have now identified the mismatch between the strong performance of funds in the sector and their lowly valuations.

Private equity funds certainly aren’t for everyone. They require a long-term approach and investors must be prepared for ups and downs along the way. The valuation process, which depends on some subjective judgements and can be backward-looking, means performance tends to be lumpy and also that it can be difficult for investors to see exactly what’s going on in the fund’s portfolio. Still, for investors prepared for these challenges, this can be a rewarding asset class – and for most of them, investment companies represent the best opportunity to get into it.