A batch of recent reports from the research firm paints a contrasting picture of how well private equity and hedge funds fare in popularity stakes. Investors aren't happy about hedge funds but appear willing to expand holdings in private equity. The data chimes with anecdotal reports from family offices and other wealth industry players.

The “big two” alternative investment areas of private equity and hedge funds chalked up contrasting fortunes last year, but the overall picture for non-traditional ways of putting money to work is strong. In particular, private equity has gotten so mainstream that the “alternative” tag seems redundant.

New data from Preqin, a research group tracking these areas, said in a report issued yesterday that private equity fundraising surpassed $500 billion for the fourth consecutive year in 2019. Although total numbers are slightly lower than the previous year, the average fund size grew, and the average time spent in market fell to 13 months, the lowest level ever seen. Private equity assets under management hit $4.1 trillion as of June 2019, adding almost $500 billion in the first six months of the year – a rate of $2.4 billion a day.

Total industry assets under management rose above $4 trillion and the private equity sector could go over $5 trillion by the end of 2022, Preqin said. 

By contrast, hedge fund performance improved in 2019, but long-term returns lag behind public indices. The Preqin All-Strategies Hedge Fund benchmark returned a net 11.45 per cent for the year, which marks only the second time in the last six years that it has been in double figures. But three-year annualized returns are still well below most public indices, Preqin said. 

As regularly chronicled by this publication, family offices and other types of wealth manager have been pushing into private equity, debt, infrastructure and real estate, attracted by the illiquidity premium for such assets against a background of low yields in listed equities and bond markets. Some organizations say that areas such as venture capital – a subset of the private markets space – ought to attract far higher allocations from families than they currently do, because the long-term time horizons of family offices gel with the asset class. In another twist, the Securities and Exchange Commission has pushed to widen access to these areas.

One concern is that the volume of money – “dry powder” to be put to work in private equity – stood at about $1.43 trillion at the end of 2019. Money-raising by private equity funds reached almost $600 billion in 2019, one of the highest sums on record. However, a trend of firms moving away from listed to unlisted markets creates plenty of headroom for non-traditional investment firms, Cambridge Associates, which tracks such data, has argued. To illustrate the point, over the past 20 years, the number of publicly traded US stocks has shrunk by almost half, to 4,336. That compares with 8,353 unrealized and partially unrealized VC-backed companies in 2019. 

Buoyant mood
Preqin said that almost nine out of 10 investors expect to maintain or increase their allocations in 2020, and almost half of fund managers think the position of the market cycle will have a big impact on private equity in the months ahead.

“Private equity’s enormous expansion seems to be accelerating. The industry is on course to add almost a trillion dollars a year for the next five years, an astonishing rate of growth. Investor demand has been strong and sustained, and fund managers have been able to offer them robust returns even in a low-interest environment, fueling a virtuous cycle of growth. But it’s not all good news: the fundraising marketplace is more crowded than ever before, making it difficult for fund managers to stand out, and for investors to find the right funds for them,” Christopher Beales, executive editor of the 2020 Preqin Global Private Equity and Venture Capital Report, said. 

Private equity fundraising reached $595 billon with 1,316 funds closed in 2019, a small decline from 2018, when 1,790 funds were closed securing an aggregate $628 billion. In 2019, the average size of venture capital funds rose to $139 million from $127 million in 2018. Buyout funds’ average size also grew to $1.567 billion from $1.012 billion in 2018.

Preqin said that two-thirds (65 per cent) of investors think equity markets are at a peak, and 33 per cent are increasing their allocations to private capital as a result.

Hedge funds
The report said that investors “remain unsatisfied with performance and have been withdrawing capital from funds – a net $82 billion in assets were withdrawn in 2019. 

Hedge funds’ fee structures are evolving, and managers are consolidating - average management fees are at their lowest level in 10 years, and in 2019, the number of active funds has declined for the first time to 16,256. 

“2019 hedge fund returns balanced out losses incurred in a tough 2018. But all is not forgiven for the asset class: annualized returns over three and five years trail public indices, and investors remain broadly dissatisfied with the performance of their portfolios,” Preqin’s Beales said.

The Preqin All-Strategies Hedge Fund benchmark returned a net 11.45 per cent in 2019, only the second time in six years that performance has hit double digits. Three-year annualized returns are still at 6.65 per cent, only half as much as the 13.00 per cent gains made by the S&P 500 in the same period.