“A Tale of Two Markets”
Public vs. private markets and the balance of capital
For over a decade, the marked structural shift of capital away from the UK public markets into private capital has been well documented. There are indications, however, that the attraction of public markets may be reasserting themselves. Considering that in December 2022 the total market cap of listed companies on the LSE was c.£500bn less than at the same point in 2007, we find these developments encouraging.
On 24 January, we saw the Private Equity Pulse piece by EY’s Lead Analyst on Global Private Equity reflecting on key takeaways and stats following Q422. Notwithstanding the macro-economic headwinds, EY reported that 2022 was the second-most active year of the last decade with PE firm transactions valued at just under US$730bn.
However, 2022 was characterised as “a tale of two markets” between H1 and H2 with the second half of the year seeing “PE firms becoming increasingly cautious” in the face of inflation, the war in Ukraine, a widening valuation gap and “perhaps most importantly, widespread dislocation in the financing markets that restricted access to PE’s traditional sources of financing”. It was also notable that the value of take-private deals stayed roughly on par with 2021 but, due to lower deal activity, increased to roughly 40% of PE deal value (vs. 20% in a typical year) while public markets were seen as “rife with opportunities” after 2021’s wave of IPOs and SPACs.
The forecast for next year may not be quite as stormy, as we see many already preparing to launch once more stable economic conditions return
While EY noted that overall private equity fundraising remained relatively resilient, “a dearth of exits” contributed to a 16% fall overall to US$500bn in 2022. Elsewhere, KPMG recently reported that the amount of money raised by companies joining the London Stock Exchange via IPO fell by more than 90% last year from £14.3bn to £1bn. The volume of IPOs was also reported as having fallen 67% from 123 down to 40 in 2021 (though up from 38 in 2020). KPMG highlighted that Further Issue fund raises also experienced a reduction year-on-year, falling 66% from £26 bn in 2021 to £8.7bn in 2022. However, for UK IPOs, the Partner and Head of KPMG UK’s Capital Markets Advisory Group said that “the forecast for next year may not be quite as stormy, as we see many already preparing to launch once more stable economic conditions return”.
To set this picture against a longer-term backdrop, The Investment Association released a report in September last year which showed Global AUM in private markets growing on an accelerating curve from 2006 to 2021 when it broke the $10 trillion mark, with private equity contributing to roughly two thirds of that figure (vs. private debt, real estate, natural resources and infrastructure).
Meanwhile the number of UK listed companies were shown to have been in relatively steady decline since 2007 (excluding a slight increase in 2021 following the surge of listings) together with a decline in the total market capitalisation of all companies trading on the London Stock Exchange recorded in December each year. In December 2022, the total market value of all LSE listed companies was roughly £3.8 trillion vs. £4.3 trillion in December 2007 according to the LSE archive issuer lists. Interestingly, 2016 was the only year where this figure exceeded 2007’s pre-financial crash levels.
The swings and imbalances we have seen in the activity of public and private markets lead us to look more closely at the spaces where they intersect and whether we might start to see some momentum shift back towards capital allocation to public markets, particularly in the investment trust and pensions space where allocation to private companies and assets have created challenges. For investment trusts, the valuation lag on private-market assets relative to public market peers has been weighing on share prices and many are seeing widening discounts to NAV. For pension funds, the FT covered how falling equity values had left them over-allocated to private markets as a percentage of their holdings, dubbed the ‘denominator effect’.
Stifel argues the ‘cliff-edge’ in NAVs implied by wide discounts among private equity trusts may be avoided
As an example of the challenges facing investment trusts, Shares Magazine covered Scottish Mortgage on 26 January noting Investec’s concerns that “the reduction in private company valuations ‘may gather momentum as audited year-end numbers begin to feed through for those funds where there is a valuation lag’, a major risk given that private companies speak for 35.9% of portfolio NAV”. That said, it highlights that “Stifel argues the ‘cliff-edge’ in NAVs implied by wide discounts among private equity trusts may be avoided” once the market “sees beyond the peak in interest rates”, raising the possibility of “a sharp rebound in the valuation of funds investing in private equity”.
In the pension space, Bloomberg had noted in November that schemes were left with “a higher-than-desired proportion of illiquid assets such as infrastructure, property, private equity and private debt” in the wake of the sell-off in stocks and bonds “to meet margin calls as a spike in UK rates caused derivative losses”. Bloomberg added at the time that a rebalancing of illiquid assets had “started but won’t finish anytime soon”. Furthermore, Apollo Global Management suggested that the denominator effect on pension funds has impacted the company’s ability to raise buyout funds in the FT article referenced earlier.
IPO pipeline will return to a healthier state once signs of stability begin to show
The overriding question we are left with in the wake of these points is whether and to what extent we may begin to see a rebalancing of capital towards public markets in the wake of the long-term structural shift indicated by the rising value of Global AUM allocated to private markets and, in the UK specifically, the decline in both the value and number of companies listed on the LSE. Against that backdrop, it is interesting that KPMG’s Svetlana Marriott suggested that the “IPO pipeline will return to a healthier state once signs of stability begin to show”.
Meanwhile, it looks as if UK asset managers have further to go in the shift to private markets. The Investment Association report noted that overall exposure to private markets among its members was only c.3% of total AUM (IA members accounted for 86% of UK AUM in Sep 2022), adding that “we expect interest to intensify [in this market] as investors look to diversify their returns in a challenging market”. However, if private company valuations continue to come under pressure due to inflationary or recessionary forces, the attraction of public markets and their valuation benchmarks could reassert themselves.
First published: 09 February 2023
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We began the Vico Views series as an expression of the team’s thoughts on the issues that we monitor in the course of our work. Internally, we have a short Vico Views type discussion every morning in our daily briefings, so we wanted to take the most interesting of those subjects and create a format to share them externally as well.
