Manager Selection is Key in Private Markets
In the January issue of the Connection, we argued that the current uncertain macro environment is a good time to shift portfolios towards a higher strategic allocation to private assets. Each of the major private asset classes offers unique features which add arrows to an investor’s quiver that are particularly valuable in uncertain times.
Private credit currently offers a high yield while being more senior in the capital structure than equities. Private equities have outperformed public equities over time, but importantly also around recessions. Private real estate has historically offered a degree of inflation protection. All three asset classes offer diversification to traditional portfolios, which is a scarcer commodity in the current environment.10
In this and future issues we plan to look into the key decisions that are integral to implement this shift. Here we highlight the importance of manager selection, which we believe matters much more in private markets than in public markets.
This is illustrated in Figure 5 below, which shows the range of outcomes across managers that investors have experienced over the last five years. The range is much wider for private assets than for public assets. The significant dispersion underscores that the rewards to effective manager selection are high in private markets. The gap between the first and fourth quartile ranges from more than 5 percentage points (pp) over the period for Private Credit to ~15pp for Private Equity, whereas in public equities and credit the range is just a few percentage points. To us, the wider performance gap represents the range of approaches and capabilities that private markets managers can bring to the table.
Figure 5: The Range of Outcomes is Much Wider Across Private Managers than for Public Managers
| Public Equity | Public Fixed Income | Public Real Estate | Private Equity | Private Credit | Private Real Estate | |
|---|---|---|---|---|---|---|
| Returns | ||||||
| Top Quartile | 9.7% | 0.4% | 3.6% | 29.6% | 13.6% | 22.0% |
| Median | 9.0% | 0.0% | 2.9% | 19.3% | 10.1% | 14.0% |
| Bottom Quartile | 8.0% | -0.2% | 1.9% | 14.6% | 8.4% | 10.5% |
Source: Morningstar, returns are over a five-year period from 10/1/2018-9/31/2023 (Open-end funds): Public Equities (US Large Blend); Public Fixed Income (US Intermediate Core Bonds); Public Real Estate (US Real Estate). Preqin, returns are for 2018 vintages that have last reported between 9/30/2022-9/30/2023. (North America, Closed funds): Private Equity (Buyout), Private Credit (all Private Debt strategies); Private Real Estate (Co-invest, Core, Core+, Debt, Value Added, FoF). Investments in less liquid private market strategies are by nature risky and typically involve a high degree of leverage. The returns indicated above are long- term and represent well-known asset class indices and are not meant to be predictive of the performance of any particular fund, nor are they meant to suggest that all private funds result in positive returns or would avoid loss of principal.
The key drivers of performance for private assets have evolved over time. As described by Matt Katz earlier, AI is becoming a powerful tool which private market managers can implement to help add value and drive growth in investments.
This applies beyond private equity. From a macro perspective we believe the next cycle will be different (see Joe Zidle’s essay) and see less expansion of valuation multiples for many assets than we have been used to due to a more volatile interest rate environment. This means that more of the investment outcome in general has to come from cash flows and cash flow growth. We believe managers’ capacity to drive this type of growth will be a key determinant of future differentiation.
At Blackstone we look into this environment with optimism. We believe we have three key advantages:
- Scale: Scale matters, in our view. With over 1 trillion dollars in assets under management, Blackstone invests across regions, industries and asset classes and therefore benefits from the knowledge, resources, and critical mass required to take advantage of opportunities on a global scale.
- Track Record: The firm’s performance is characterized by strong risk-adjusted returns across a broad and expanding range of asset classes and through all types of economic conditions for nearly four decades.
- Value Creation: Blackstone further differentiates itself with a dedicated Portfolio Operations team. This group of functional experts is focused on partnering with portfolio companies in order to drive operational improvements using the firm’s scale and expertise. The implementation of AI discussed above is one example of this work.
- Diversification does not ensure a profit or protect against losses in declining markets.
The views expressed in this commentary are the personal views of the authors and do not necessarily reflect the views of Blackstone. The views expressed reflect the current views of the authors as of the date hereof, and neither the authors nor Blackstone undertake any responsibility to advise you of any changes in the views expressed herein.
Blackstone and others associated with it may have positions in and effect transactions in securities of companies mentioned or indirectly referenced in this commentary and may also perform or seek to perform services for those companies. Blackstone and others associated with it may also offer strategies to third parties for compensation within those asset classes mentioned or described in this commentary. Investment concepts mentioned in this commentary may be unsuitable for investors depending on their specific investment objectives and financial position.
Tax considerations, margin requirements, commissions and other transaction costs may significantly affect the economic consequences of any transaction concepts referenced in this commentary and should be reviewed carefully with one’s investment and tax advisors. All information in this commentary is believed to be reliable as of the date on which this commentary was issued, and has been obtained from public sources believed to be reliable. No representation or warranty, either express or implied, is provided in relation to the accuracy or completeness of the information contained herein.
This commentary does not constitute an offer to sell any securities or the solicitation of an offer to purchase any securities. This commentary discusses broad market, industry or sector trends, or other general economic, market or political conditions and has not been provided in a fiduciary capacity under ERISA and should not be construed as research, investment advice, or any investment recommendation. Past performance does not predict future returns.
