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IT Insider: private equity is being priced for a wipeout that isn't coming
by James Carthew on Aug 23, 2011 at 00:01
In markets like these events can overtake you quite quickly. In this situation the important thing is to keep reminding oneself that investing is a long-term game – selling with the herd and only summoning up the courage to return when everything is looking rosy is not a good way to make money.
I was running through the closed-end fund stats after the initial falls looking for potential bargains. I thought it was interesting that some of the widest discounts have emerged on the private equity funds and wondered if investors are worrying that the ratings on these funds will collapse when recession re-emerges.
Oriel Securities published some data on 11 August that showed the changes in average discounts for different sub-sectors of the market between 22 July and 10 August. Some areas like UK High Income have seen sharp rises in premia as stock prices remained static in the face of declining NAVs.
Private equity funds, which were already trading at the widest average discount at the start of the period, saw the biggest share price falls, leaving the average fund on a 33% discount. It is true to say that in 2008/9 private equity funds ended up trading at a lot lower levels than this but circumstances have changed since then and I think some of these funds may be oversold.
Of the big funds of funds, Pantheon International Participations stands out as trading on the widest discount (currently over 36%). It has been cheap relative to its peer group for some time. The fund is 24 years old and the manager has a long and relatively successful history.
The 66 strong team, based chiefly in London and San Francisco with smaller teams in New York and Hong Kong, manage well over $20 billion. The company started life as a fairly straightforward fund of funds. In the early 2000s they wanted to expand the company but were worried about the effect of cash drag on their performance. They issued participating loan notes and, in return for a small annual fee, got various institutions to commit to subscribe for these when Pantheon called on them to do so. Later these PLNs became redeemable shares.
With credit hard to come by Pantheon issued loan notes in 2008 and 2010 to help shore up its balance sheet. These would have matured later this year and, to pre-empt a complicated refinancing, a couple of weeks ago Pantheon announced they would call down funds from the standby commitments and repay the loan notes early.
The institutions have been released from their outstanding commitments. Essentially they have replaced debt with new equity but, by issuing the new shares at NAV, there is no dilution for existing shareholders. In June this year they put in place a new multi-currency facility that matures in 2015. This should mean the balance sheet is stable for the time being.
Pantheon developed a serious over commitment problem during the crisis and had to address this by selling funds at a discount. This hurt the NAV but did sort out the problem. Over the past year the pace of distributions by the underlying funds has picked up as they have been making more disposals.
Drawdowns by funds have remained fairly subdued however – many funds are nearing the end of their investment periods and it is increasingly unlikely that these will draw down all the capital they are entitled to. (NB This is a common story across the sector and, with healthier balance sheets and no over commitment problem, there is no logical reason why discounts across the sector should return to peak credit crisis levels.)
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