Three of the main players taking minority stakes in alternative asset managers – Blackstone Group, Dyal Capital Partners and Goldman Sachs’ Petershill programme – are rolling in billions of dollars, as private markets platforms are increasingly willing to sell part of their firms.
The three New York-based money managers, through a series of transactions in which they have taken non-control positions in other alternative investment firms, could be on track this year to surpass the number of such deals closed last year.
Blackstone, Dyal and Goldman all likely have the capital to do so. Blackstone’s vehicle oversees more than $3.3 billion in permanent capital in its Blackstone Strategic Capital Holdings; Dyal closed a $5.3 billion fund, Dyal Capital Partners III, last year and has already returned to market, seeking another $5 billion for its fourth fund. Goldman closed its latest Petershill fund in February at $2.5 billion.
The three firms declined to comment for this article.
“Demand is building from institutional investors,” said Jeff Hammer, a Houlihan Lokey managing director and co-head of the firm’s illiquid financial assets practice. “The predictability of the income stream from funds with long-term, locked-up money presents an attractive investment opportunity.”
There are a few similarities between secondaries and the GP interest strategy, including J-curve mitigation – the strategy has a very shallow J-curve, because you’re getting cash back from day one – and the way buyers conduct analysis and due diligence on potential deals.
Transactions tend to result in stakes of 10-33 percent, said one fund manager that sold a stake. Blackstone, Dyal and Goldman want to be able to write cheques that move the needle, this person said, noting that a stake of, say, 3-5 percent might not have that large of an impact for the firm selling a portion of itself.
Initially, Goldman launched its Petershill effort before the global financial crisis and took minority stakes in hedge funds, but has since expanded its book to include managers operating closed-end funds, which provide a much more stable source of cash.
“Private equity offers stability with locked-in management fees,” Hammer said. “Hedge funds are more volatile as the value of their assets ebb and flow with market conditions, and so do their fees. That said, hot hedge fund managers can offer significant fee upside through performance in any given year.”
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Hedge funds, on average, have posted lacklustre performance in recent years, though, returning 0.79 percent through June, according to Hedge Fund Research’s HFRI Fund Weighted Composite Index. One-year returns stood at 5.67 percent, while three- and five-year returns were 3.63 percent and 4.44 percent, respectively.
For its part, private equity has performed much better; preliminary results for the first quarter were 2.96 percent, according to the Cambridge Associates LLC US Private Equity index. For the three months ending 31 December – the most recent period with final results – the asset class returned 5.07 percent. It had a 12-month return of 17.49 percent, and three- and five-year returns of 17.49 percent and 11.79 percent, respectively.
On the capital raising side, hedge funds saw $30.3 billion of inflows in 2017 – the highest on record – though that does little to offset the $111.64 billion in outflows the industry suffered in 2016, according to research firm eVestment.
Private credit and private equity fundraising have been booming, however, according to PEI data. Private equity raised $455.39 billion – the most since at least 2012 – while private credit posted a record-breaking fundraising year, amassing $205.98 billion, the highest amount on record.
The focus on closed-end capital results from the illiquid managers playing “catch up” to the those firms overseeing open-ended vehicles, one industry source said. “There’s clearly different nuances partnering from a liquid manager and an illiquid manager,” this person said.
One manager that invests in the space disputed that private equity funds have been more attractive than hedge funds.
“We would start with the premise that they’re just different asset classes,” the market participant said. “There’s challenges in the [hedge fund] space, but there’s a lot of firms that have been very successful. The locked-up capital [of private equity-style funds] just requires a higher valuation.”
LPs have come to appreciate indirectly owning minority stakes in other alternative asset managers because, for once, it allows them to receive a portion of private fund fees rather than pay the levies.
“[Through minority stakes in alternative asset managers] the investors also see the fees they are paying to these managers,” another fund manager that invests in the space said. “When you offer these LPs to sit on the same side of the table of the GPs, it can be a pretty compelling trade.”
In addition to the management fee and carried interest income streams, LPs will also see the gross return from the given fund manager’s general partner commitments, this person noted.
“[The phenomenon is] partially driven by LPs looking for deeper and deeper relationships on their GP side,” Goldman managing director Christian von Schimmelmann said. “They are encouraging private equity GPs to expand into credit.”
The investment proceeds are typically used for one of three purposes, sources said: succession, larger general partner commitments to the firm’s funds or product expansion.
“Other reasons why people might do it in today’s environment – to the extent that there’s market dislocation – the winners will have substantial balance sheets with cash,” said one fund manager that sold a stake, noting that alternative investment firms historically have not had large balance sheets.