Solving the private equity liquidity challenge

Investment trusts are democratising the asset class

Oliver Gardey ICG Enterprise Trust
Oliver Gardey


By Oliver Gardey (pictured), head of private equity fund investments, ICG Enterprise Trust

Private equity is often seen as the preserve of the privileged few: large institutional investors or wealthy family offices with significant capital to invest over many years, out of reach for individual investors.

If you want to protect your savings, build a nest egg for your children, or prepare for retirement, you would be forgiven for thinking that private equity – with funds often requiring a minimum investment in the millions – is not the asset class for you.

Whilst institutional investors and family offices continue to be major players in private equity, listed investment trusts are democratising the asset class, giving savers liquid access to actively managed portfolios of private equity investments.

Listed investment trusts have long been used strategically by individual investors to diversify their portfolios. The Foreign & Colonial Investment Trust was the first, launched in 1868. By 2022, there were more than 375 investment trusts (otherwise known as investment companies) in the UK, holding over £260bn of assets, according to the Association of Investment Companies.

Whilst the lion’s share of the sector’s holdings is invested in public equity, many investment trusts specialise in alternative asset classes, including private equity.

It is easy to see why institutional investors and family offices often turn to private equity to grow their wealth. Historically, private markets have consistently outperformed public markets; a trend which many expect to continue.

Of course, the factors driving private equity returns are numerous and complex, but all relate to the long-term alignment of interests between fund managers and company managers found in private equity, with active management and operational expertise offered to underlying portfolio companies to help them grow.

This ‘alignment of interests’ sees private equity managers create value for their funds by improving the performance of companies in their portfolio. Managers typically bring vast hands-on experience in improving company operations, working with company management teams to drive long-term strategic change, operational improvements, expansion strategies and financial discipline.

This level of cooperation between investor and holding rarely occurs in public markets as the regular reporting cycle often means that investors and managers are too focused on hitting the short-term performance metrics. Private ownership can often take a slightly longer-term view to drive operational improvement which over time can often deliver a better outcome.

See also: AIC partners with private equity research house

The alignment of interests between fund managers and underlying portfolio companies is particularly beneficial because it plays out over the long term. Fund managers typically hold investments for four to seven years and can focus on delivering value-creation over the long term, rather than making transitory decisions for the sake of short-term quarterly results.

At the beginning of the fund cycle, managers have a long lead time – often measured in years – to conduct extensive research into potential holdings. In the middle of the cycle, managers have the freedom to work with company management to fundamentally transform performance. And as a fund nears the end of its lifespan, managers are not forced to sell their holdings at the whim of the latest volatility on Wall Street or in the Square Mile or because the company has moved out of a particular index.

Private equity’s active management approach has numerous benefits, but there are barriers to entry for individual investors which can only be overcome by solutions such as investment trusts.

Typically, private equity funds have large minimum ticket sizes, meaning investors need millions to gain access to them – and hundreds of millions if they want to achieve real diversification across multiple funds. And even if individual investors were to meet the minimum ticket size, the long-term approach taken by managers can restrict investors from freely trading their holdings as personal circumstances change. In short, private equity has a liquidity challenge.

Private equity investment trusts provide one solution to the liquidity challenge as they are set up as public companies but they hold long term investments in companies which are privately owned and generate private returns. Within this structure retail investors can gain exposure to these private investment holdings and returns alongside institutional investors but can buy and sell the shares with impunity.

As closed-end vehicles, shareholders’ ability to buy and sell shares is entirely disconnected from the pace at which trusts trade their own holdings. In this sense, investment trusts combine the benefits that institutional investors enjoy in private equity with the flexibility individual investors enjoy in public equity.

Investment trusts therefore offer a convenient and democratic way for different types of investors to diversify their portfolios into alternative assets, overcoming the liquidity challenge that typically prevents individual investors from accessing private equity.

Given the wide universe of private capital focused investment trusts, it is important that investors do their due diligence to ensure that they choose the right listed fund; the best ones will allow investors to gain exposure to high-quality managers who have the ability to differentiate themselves and outperform during challenging economic cycles.

With the right selection, investment trusts can create long-term value and offer access to strong returns from fast-growing companies which aren’t available via public markets.

See also: Private equity assets buoy F&C results

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