GPs can no longer avoid secondaries

There has never been a better time for GPs to utilize the secondaries market.

Blink and you might have missed it. In a year when primary managers raised $272.3 billion for buyouts alone, the secondaries market – once a fledgling cottage industry where $1 billion was considered a mega-fund and the stigma of LPs wanting to exit a GP’s fund reigned – broke record upon record.

A quick look at the numbers tells a compelling story. Fundraising for private equity secondaries funds smashed the 2016 record with $38.2 billion amassed in final closes, according to PEI data. They weren’t unknown names either: Blackstone’s and Goldman Sachs Asset Management’s secondaries units raised last year’s biggest funds, collecting almost $15 billion between them.

Secondaries transaction volume – typically defined as the price a buyer pays for assets or stakes in a deal plus the unfunded commitment they agree to take over – was as high as $58 billion, according to advisor Greenhill Cogent. To put this in perspective, that’s a 57 percent increase on the previous year and an almost 40 percent increase on the previous record high of $42 billion set in 2014.

And secondaries is no longer confined to trading LP stakes. GP-led transactions reached $14 billion last year, almost 25 percent of the market, according to data from Greenhill. And 2018 looks set to follow suit, if the March restructuring of Scandinavian buyout firm Nordic Capital’s 2008-vintage fund – the largest ever, at €1.5 billion – is anything to go by.

Primary managers are taking greater advantage of the secondaries market to address issues within their LP base through such transactions.

With a plethora of secondaries buyers hungry to deploy capital as replacement LPs, GPs are spoilt for choice when it comes to working out how to address differences in their investor bases. Transactions can include fund restructurings, tender offers, asset strip sales – and the level of creativity from secondaries buyers increases with every deal.

GPs who ignore secondaries as a potential tool are missing out on a huge opportunity, market sources say.

“Any new innovation will have some early resistance,” says one secondaries market source. “It’s the next stage in the market, it’s a natural evolution with increasing sophistication and it can only give LPs more options.”

While excitement remains high in the GP-led part of the market, it’s worth remembering traditional LP fund stake sales continue to drive the bulk of deal volume. According to a January report by advisor Evercore, almost 70 percent of deals last year were LP positions.

LPs wanting to part with private fund stakes have never been better served – average pricing last year surpassed its previous record, with buyers willing to pay almost par to NAV for interests in buyout funds, up from the prior high of 96 percent in 2014, according to Greenhill. With LPs no longer suffering a paper loss for the best funds, it’s no wonder investors are using the secondaries market to more actively manage their portfolios.

For primary managers wanting to address concerns in their LP base or find extra time to create value for assets before exit, there’s a burgeoning industry with as much as $125 billion in dry powder knocking at the door. For LPs overallocated to a particular strategy or who want to rebalance their portfolios, record-high pricing is a cherry on the cake. The case for GPs to access the secondaries market has never been stronger.