Secondary Market Valuations

We are now mid-way through 2023, so we caught up with Head of Secondary Investments Tom Kerr to gain his perspective on the current secondary market environment.

Do we think valuations are correct? Is the real fair market value being reflected in the discounts that we are paying?  

Private vs. Public Holding Valuations
By sector, as of Q3 2022

This is a tricky question. We spend a lot of time talking about valuations across our platform with our investors. It's not just a secondary question, but obviously the secondary market is the place where it's most acute to understand valuation. If you're trading in secondaries, ultimately the realized value is all that really matters. Those unrealized values are the basis against which you're pinning the transaction, so it is very important to understand what's going on.  

Not all NAVs are created equal today. They never really have been. It is certainly a subjective exercise to value private businesses. The idea that a fundamental valuation has a consistent basis and that consistent basis is applied by the GP is paramount. We believe when we look across the landscape, GPs are doing that; however, the means they utilize to do so is not always consistent. There are a number of funds that we’re seeing with continued good operational performance and growth, but perhaps valuation multiples are declining. They're declining because the GP's view is that overall multiples are coming down because of higher cost of capital and the backdrop of the environment. In other funds, we're not seeing the same thing. We might see valuations being held flat, but perhaps operational performance is not as strong and they're maintaining those carrying values there. Their EV multiples are staying where they were in 2021 and 2022 – even in 2018, 2019 and 2020. This is the inconsistency, so understanding how that valuation is being done by an individual GP is really important. 

Are they fair? Yes, they are fair. Are some more aggressive than others? Absolutely. There are a lot of factors at play. There's M&A, there's cost of capital. Some GPs have hedged their interest rates. Others have not. This is going to lead to, what we believe is, a very uneven performance environment and valuation environment across portfolios broadly. When you take a step back, we think that is something that needs to be understood if you're going to be a buyer in this space.  

I want to switch gears a little bit and reference the last segment, which was pointing to the S&P 500. While that's up 15% year-to-date, if you break that down, the top five or six stocks are driving essentially all of that return. Of the 500 stocks, 494 of them have generated relatively flat or +/-1% performance.¹ Within that, there's a lot of divergence. I take that corollary to the private markets and say, within the private market you have a lot of uneven performance. Some companies are doing well, some companies are not doing so well. Overall valuations have been relatively flat, and more accurately reflect not the index of public markets, but what you're seeing in the underlying performance of companies. At the end of the day, the gap between public and private market valuations has shrunk a bit. It was there in 2021 but has all but eroded, which means that the conservatism in the private equity markets is probably down a little bit relative to where the public markets were.  

What does this mean for the secondary landscape?

From our perspective on a macro level, we think that rates are going to be higher for longer. They've stabilized, but they’ll likely continue to stay elevated. We’ll likely see a soft-landing scenario. Whether that's a recession or a mild recession is still unclear. When you apply that back to the secondary market, we think it's very much a stock pickers market, much like I just described. If you're picking right within the S&P, you could be outperforming the market pretty substantially today. If you're picking right in the secondary market and in the private markets, we think you can be outperforming as well. We think the macro-levered beta play is a challenging way to play this type of market because things are likely to be so uneven. That uneven type of market is really good for private market investing, where you can really influence businesses. Historically these have been markets where private equity has outperformed and private markets have outperformed. We think it's an interesting environment to be investing into, but you need to be selective.