Have recent liquidity issues sealed the fate of private assets?

Unlike traditional asset classes including bonds and equities, private assets are investments that are not freely traded on exchanges, Private assets are heralded as offering diversification benefits as well as improved returns over listed securities that justify their lack of liquidity.

Private assets have grown in both absolute terms as well as relative to traditional asset classes. There have been some high-profile companies that experienced robust growth while under private ownership, such as Uber, Airbnb and WeWork. These businesses were suited to private ownership, enjoying investment from sympathetic owners to grow market share without prematurely striving for profitability. Central bank liquidity and low-interest rates acted as a catalyst. The total private markets amounted to $11.7trn in 2022 and make up more than 15% of the total asset universe of alternative and traditional asset classes.

The valuations of private assets are considered low volatility as they are only subject to infrequent valuations as opposed to the frequent transactions that give the price of listed investments. However, this misrepresents the true volatility of the asset class as it is not clear that the valuation would be achieved, were the assets to be sold during a period of stress.

We examined the valuations of private assets over the last 18 months, when public markets experienced some extreme volatility and found that private asset funds valuations seem eerily smooth, consistent & elevated. Were those funds to sell their investments it is likely that the valuations that were in place in 2021 would not be reached today.

One may ask if a private equity fund is not forced to sell its assets, what difference does an unrealistic or elevated valuation make? And the answer to that is another question: what if private equity funds are forced to sell their assets?

The recent liquidity crisis in the US that led to the collapse of Silicon Valley Bank (SVB) is a lesson that higher interest rates test the financial system. Similarly, higher interest rates have the potential to test the model of private asset funds as investors question asset values in a higher interest rate environment and seek potentially higher returns in lower-risk assets. This has already been seen in some funds as the Blackstone real estate fund received redemption requests of £4.5bn us March of which it met just $666m. To meet those redemption requests, funds would be forced sellers of assets, and that would test the lofty valuations of yesteryear that they cling on to.

James Hunter-Jones, Senior Investment Manager