Institutional investors are exploring options to divest from private equity funds due to the recent turmoil in global financial markets. This move, which may involve selling stakes at discounted rates, poses significant challenges for the $4tn buyout industry. Industry heavyweights like Blackstone, KKR, and Carlyle witnessed substantial stock declines last week, reflecting broader concerns about liquidity and profitability within the sector. With expectations of revived dealmaking under the Trump administration unmet, the private equity landscape finds itself in a precarious position reminiscent of past crises.
The increasing demand for liquidity among pensions and endowments signals growing skepticism about potential cash profits from current holdings this year. Last year marked the first decline in private equity assets in decades, as fundraising fell sharply. Executives had anticipated a resurgence in deal activity and initial public offerings (IPOs) to bolster returns, but instead, the market has moved in the opposite direction.
Industry experts draw parallels between today's situation and the onset of the 2008 financial crisis or the early days of the coronavirus pandemic. Matthew Swain, head of private capital at Houlihan Lokey, noted an unprecedented surge in inquiries from limited partners seeking liquidity over the past few days. Many large investors entered the year heavily exposed to unlisted assets, with exposures often exceeding risk limits. They had hoped that renewed deal activity would alleviate these pressures.
However, the recent plunge in global stock markets has exacerbated the problem. The cessation of dealmaking and IPO activity has minimized cash returns, while the "denominator effect" has further complicated matters. This phenomenon occurs when private market holdings, marked quarterly, increase as a percentage of overall assets due to declines in public markets. Oren Gertner, a partner at Sidley Austin, warned that continued declines in public markets could intensify this issue.
Advisers predict a wave of asset sales on secondary markets, with endowments likely leading the charge. These institutions, already grappling with financial challenges such as potential tax increases and reduced federal funding, may be forced to sell their stakes at steep discounts. Sunaina Sinha Haldea, global head of private capital advisory at Raymond James, anticipates a significant sell-off if public stocks fail to recover by month's end.
Potential sellers face a challenging market environment, where prices for second-hand private equity fund stakes could plummet below 80% of net asset value. Advisers caution that the current climate may force investors to accept less favorable terms than in recent quarters. As the industry grapples with these pressures, the coming months will reveal how effectively it can adapt to changing circumstances and restore investor confidence.
As institutional investors navigate these turbulent times, the private equity industry faces a critical juncture. The need for liquidity underscores the sector's vulnerabilities, highlighting the importance of strategic adjustments. Whether through asset sales or other measures, stakeholders must find ways to mitigate risks and ensure long-term stability. The path forward remains uncertain, but addressing immediate challenges is essential to preserving the industry's resilience and growth potential.