At the table

Clockwise from left

Nigel Van Zyl - Proskauer
Oliver Gardey - Pomona Capital
Sebastian Junoy - Headway Capital
Nik Morandi - Pantheon
Nicholas Lanel - UBS

We have seen a number of substantial secondaries fund closes over the past six months, and of course there are a number of others that remain on the road. How challenging is fundraising proving for this part of the market when compared to your primary cousins?

Gardey: The secondaries industry, in general, has done very well, and so from a risk-adjusted returns perspective this is seen as an attractive asset class to invest in – most that have done so have had a good experience. 

The majority of investors now want some kind of secondaries allocation in their portfolio and increasingly they don’t just want one fund, but three or four, as the market matures and becomes more differentiated.

I consider demand for secondaries to be quite robust, therefore. However, private equity as an overall percentage of asset allocation is fairly flat in the Western world, and in some cases, particularly with financial institutions, is falling. So demand is strong, but not growing to the same degree that it was ten years ago. I think that is a good thing though because it ensures we don’t get too much capital coming into the market.

Fundraising targets certainly haven’t decreased, however. Will we see some secondaries firms failing to reach their ambitions?

Morandi: We are not fundraising at the moment so I have no direct experience of the market but of the two large fundraisings we have seen recently, one, at least, significantly exceeded its target. I think demand is still strong. Secondaries are taking a bigger share of the private equity pot.

I agree though that overall the numbers are decreasing – or are at best flat – and investors are becoming more discerning about which funds they are prepared to back, so I expect to see a bit of shakeout with firms raising smaller funds than anticipated, although maybe not immediately.

Junoy: We are not only seeing continued interest in secondaries from those investors that have a lot of experience in private equity, but also from new entrants that want secondaries exposure in order to accelerate deployment and build up a diversified private equity programme quickly. This is particularly true in developing markets and it is contributing both to deal flow and fundraising.

This time around, there are far more firms with a realised track record to showcase. How much differentiation is there in secondaries returns?

Gardey: It is definitely fair to say that the spread between top quartile and bottom quartile is less pronounced than it is in the primary business. Again, I think this is because secondaries have performed very well on a risk-adjusted basis. But differentiation isn’t just about returns. You can also differentiate by strategy, risk ratios, portfolio construction and liquidity.

Morandi: The narrower spread does speak to a greater consistency in the secondaries market. The strategies employed to achieve those returns can differ wildly, however, and the challenge for LPs is to understand how different managers are achieving those returns and what risk they are assuming. 

To what extent is a focus on differentiation leading to increased specialisation in the secondaries market?

Morandi: There haven’t been a huge number of new entrants and so that limits the extent to which specialisation has occurred. But there are significant differences in strategies employed by various firms. This is partly down to size. Become too large and it limits the extent to which you can specialise – you almost become an index. There are dangers in becoming overly specialised as well, however, be it by geography or asset class. If you focus purely on venture or mezzanine, for example, you become overly reliant on a sub-sector of the market and may struggle to deploy throughout the cycle. Having the opportunity and ability to look at a wide range of deals
while also having specific expertise is valuable. 

Van Zyl: We carried out analysis of the eight or nine secondaries funds raised last year and the defined investment objectives of all of them were very similar. They could pretty much do anything. Of course, that doesn’t necessarily translate into identical strategies, but the legal frameworks were very similar. 

Gardey: The secondaries market has evolved very naturally over the past 20 years. If you look back to when the market really started to come to fruition in the early 1990s, secondaries players had to go out and educate sellers about the very existence of secondaries. At that point in time you couldn’t be too picky or specialised because you have to feed off what you sourced. Fast-forward two decades and the market has grown exponentially, with somewhere between $20bn (€16.1bn) and $25bn closed last year. That has created the opportunity for far more specialisation. 

At Pomona, for example, we have developed a theme-based investment approach. We have gone out and identified areas where we feel the perceived risk is larger than the real risk. That could be sectors – healthcare and energy are areas where we have been successful. Or it could be seller-focused. Hedge funds, for example. When you are seeing $50bn or $60bn of deal flow a year, there is a far bigger pond to fish in, so you can afford to specialise.

Van Zyl: We are also seeing secondaries funds focused on emerging markets and those that are particularly focused on funds of funds.