PLANSPONSOR - June/July 2020 - 36

DB FOCUS
Blight
Resistant
Private equity is
a bright spot for
investors at this time
P
rivate equity has been an important
portfolio choice for stewards of
defined benefit (DB) plans, as, over
the long haul, it has earned returns superior
to those in the public equity market.
In a series of strong years since the 2008
financial crisis, private equity assets had
risen from about $900 billion to $2.6 trillion
by mid-2019, according to the most
recent industry reports from Preqin, a
research firm. That total included $1.5 trillion
in capital available for investment-or
" dry powder " as the industry likes to call it.
In the private markets, dry powder
refers to the amount of committed but
unallocated capital a firm has on hand.
Simply put, it is unspent cash waiting to
be invested. A private equity firm could,
for instance, use its dry powder stockpile
to buy out a distressed company.
Like every part of the global economy,
private equity has been upended by
the COVID-19 pandemic and has seen
a falloff in fundraising and investment
activity. But that mountain of dry
powder may play an important role in the
recovery to come, wrote Jon Gray, president
and chief operating officer (COO)
of The Blackstone Group Inc., in late
April's Financial Times: " Even the most
deserving companies may not have access
to capital when they need it most for
survival, job preservation and growth. ...
Into the vacuum, well before the 'all-clear'
signal has been called on this downturn,
must flow private capital. "
If history is a guide, investors should
benefit from helping in the recovery.
" Pension sponsors have been attracted
to private equity by its high historical
returns, and that has been compounded
recently by the decline in most people's
expectations of returns in the public
markets, " says Marc Friedberg, managing
director in the private markets group at
consultants Wilshire Associates in Santa
Monica, California. " Their return assumptions
for the public markets have fallen
below their actuarial expectations, so they
either have had to leverage their portfolios-which
most are reluctant to do-or
add higher-returning assets, which means
going to the private markets. " Various
surveys put U.S. allocations to private
equity at about 6% for corporate DB plans,
and about 9% for public plans.
As the chart attests, the force of
Federal Reserve liquidity has made the
public markets difficult to beat lately. But
the 15 years ending this past December
better reflect the time frame of an institutional
investor in private equity. Here,
the median pooled private equity fund
universe returned 12.66%-well ahead of
the Standard & Poor's (S&P) 500 at 9.00%.
36 PLANSPONSOR.COM June - July 2020 Art by Qian Chen
" Over the long term, you should be
happy with your private equity investments
if you get 250 basis points [bps] annually
over the public markets, " says Tom
Cawkwell, a partner at Albourne Partners,
consultants specializing in private markets,
from the firm's San Francisco office. " You
can aim for more, and there is good reason
to believe that some strategies will provide
it, but if you get that much, you should be
OK with the results. "
At a more granular level, private
equity returns can be all over the map. For
example, for funds of the vintage year 2013,
Cambridge Associates reports a median
pooled return of 12.02%, surrounded by
a lower quartile fund return of 8.13% and
an upper quartile return of 19.76%. That
much dispersion is typical, so it is essential
to skirt those managers who fail to exhibit
skill in the relevant environment and
highly beneficial to be able to pick the best.
Cawkwell also notes that, generally
speaking, most private equity managers
earn returns above the public markets-
at least before fees. " The question of
whether they add value is, in our view, not
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