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- [00:01]
A
Following the global financial crisis, many LPs that came to the secondaries market were forced sellers offloading stakes to deal with a denominator effect on their portfolios in this relatively nascent market. By 2013, total volume had reached $26 billion, according to an Evercore analysis reported by Secondaries Investor during the year of this magazine's founding. By year end 2014, secondary's deal volume surged in relative terms sitting at around 40 billion to $50 billion, with LP led portfolio sales landing somewhere in the 30 billions nearly a decade later. It's interesting to ask, would 2023's figures come as a shock to market participants of that time? LP led deal flow made up 52% of the $115 billion of secondary's volume seen last year, according to a report from PJT Partners. Kaiser Permanente is a prime example of a programmatic secondary seller in market. Currently, the massive nonprofit healthcare organization is shopping a multi billion dollar portfolio of private equity fund stakes in the market, marking its third process in three years. Canadian pension plans and funder funds are also known to be regular programmatic secondary sellers. So how did we get here and how has LP's sentiment changed towards the secondaries market? I'm Madeline Farman, senior reporter at Secondaries Investor, and welcome to our sixth episode of our Decade of Secondaries Investor miniseries, celebrating 10 years since the publication's launch. In this episode we'll discuss the evolution of programmatic secondary sales. Joining us is Geoff Key, the chair of Harbourvest's Secondaries Investment Committee, who's been with the firm since 1999, and as well as Adrian Milan, who joined PJT Parkhill in 2009 while the advisory unit was under the ownership of Blackstone. Milan started by explaining that a decade.
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B
Ago the secondaries market had certainly reached an inflection point in terms of incremental activity from, you know, the prior 10 years, which were its very early origins. You know, there was a lot of regulatory driven sale activity and that was predominantly financial institutions in response to pressures to increase liquidity. Dr. Driving sales of balance sheet assets to advance proceeds and free up funds to be able to shift to other business activities or other growth initiatives. And so I think as I sat in that market looking back, we had a number of things that were starting to emerge. Billion dollar sales were a new event for the market. I think you had several secondary funds that had eclipsed the $5 billion mark of capital raised, which was a pretty significant milestone for many. And the majority of the volumes as you had stated was in the LP market. There were a few asset centric transactions, but the vast, vast majority of the market was in the LP portfolio sale activity.
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A
When Jeff Key thinks back to secondary's market activity a decade ago, there's one theme that's similar and one theme that's very.
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C
He told me first, in terms of what's different, the market was disproportionately characterized by sellers who were financial institutions, including because of pressure to sell from a regulatory standpoint. But I think when we look at the overall profile of secondary sellers compared to say primary investors into new funds, financial institutions which were in the neighborhood of maybe 10% of capital going into new funds represented 30 to 40% of sellers in the secondary market. That's very different than the market today where you have more of a balance or equilibrium in terms of where primary capital is coming for from new funds. The largest sources of which are pension funds, sovereign wealth funds, et cetera. Those institutions are now also the largest sellers in the secondary market. So you have more of a balance, there's more. Less of a over reliance on one bucket of institutional investor type to provide such a meaningful source of transaction volume. The part that hasn't really changed materially is with respect to who are the largest players in the market. So the top 10 players in the market today almost an identical list in terms of who are the top 10 buyers in the market 10 years ago. There have been many new entrants, but they have generally been at the smaller or middle part of the market in terms of overall size. So some ways the market hasn't changed that much. In some ways it's also there had been some meaningful changes in terms of seller composition.
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A
What's changed in the LP led secondaries market that's driven such an increase in selling activity. One switch is owed to the continued evolution of this activity away from reactive selling, while another is the sign of the maturation of the market and what it can offer investors.
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C
I think there's been a continued destigmatization of selling. And so selling 10 years ago was probably more precipitated as a result of regulatory pressure. I think it would have been a stretch to call it an active portfolio management tool that was broadly adopted by a large swath of institutional investors today. I think that's exactly what it is. I think there are institutional investors who view secondaries as a much more accessible tool for how to proactively manage their portfolio, whether that's to reduce their overall allocation to the asset class, shift allocations among geographies or strategies, et cetera. There's much more of a willingness to use the market as a liquidity tool to make their private markets portfolios essentially a more liquid part of their overall asset allocation. And then again, it's the adoption by just a broader profile of institutional investor. It's no longer as much of an unknown for institutional investors who maybe had not sold in the secondary market. And I think part of that is just the transparency and the efficiency of the market. There are more choices for sellers in terms of the buyers that they can interface with the advisor base that they can utilize to help divest assets. And so there's more efficiency in the market, which I think is a positive for sellers who are considering getting liquidity.
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A
The sophistication of these investors has also shifted over time.
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B
Milan says most of the sellers today, especially at the scale end of the market, have been programmatic selling institutions that have worked through, you know, in some cases, you know, as many as 10 plus transactions over that period. And in some cases have also moved outside of just the traditional LP portfolio sale activity and done preferred equity transactions, have done NAV financings, have employed structured solutions to meet their liquidity goals. So I think that as we look at the last 10 years, you've seen a real expansion of what is that portfolio management toolkit. And ultimately I think those that are using that toolkit have certainly become more intentional with the use cases of those tools to advance the liquidity. And the scope of that liquidity that's available in the market has certainly expanded with, as Jeff alluded to, the expansion of the buyer universe and the cost of capital that might be available to address specific needs across the spectrum.
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D
Yeah, I would say the increase in the sophistication level of sellers has had a number of benefits. You know, first, I think it gives sellers confidence to transact on larger portfolios, whereas a newer seller to the market, you know, doing something that moves the needle that much more in terms of a sale may give you more pause if you are newer to that part of the market. I think it also one way it manifests itself, straight sale transactions where you're talking about a simple exchange of cash for title in an LP LED deal. There are limits to the benefits that those transactions can provide for sellers. And I think more sophisticated sellers have been open and focused on exploring the art of the possible in terms of what are all the different ways you can take a portfolio of LP interests and create value as a seller through more customized solutions. And I think that for buyers who are Willing to entertain those types of more nuanced transactions, those more bespoke liquidity solutions. There's a part of the market where the most sophisticated sellers can extract more than just price maximization, but introduce other bells and whistles that may help them accomplish a variety of transaction objectives. And I think without the requisite level of sophistication to explore those different options, those different alternatives, sellers that are newer to the market may be more focused on just plain vanilla sales. So I do think it's created a wider range of solutions within the LP led market by having these more sophisticated sellers.
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A
So how has this increasing sophistication manifested itself and what could this mean for the secondary's market moving forward? PJT has spent some time looking in the rear view mirror to understand these changes in detail because the advisor believes this informs how the secondary's market may grow. By tracking the finer details of its history, PJT hopes it'll understand how it needs to evolve to address the needs of these repeat sellers in the future.
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B
PJT completed some research late last year that looked back at the last 10 years of selling activity in the LP market. And we found that of the just under 500 billion of activity that was completed in the LP market over the last 10 years, 50% of that activity, so think 225 to 250 billion dollars of activity was executed by 50 sellers coming back and repeating the same activity and being, you know, to use the intention, more intentional with each successive sale. And also the frequency increased over that time period. And so what that tells us, looking back at that activity, is that the growth in the secondary market has been relatively concentrated and it's really been those early adopters that have really driven the significant gains that we've seen in activity. But what we've seen in the last two years is an enormous expansion of the number of first time sellers that have come forward. So if you take the same repeat seller mindset and apply it to those newer entrants that have entered the market over the last couple of years, that is a tailwind certainly to the rapid expansion of the market as we look forward, say for the next 10 years, is that repeat activity just building upon itself and that muscle memory, as Jeff alluded to, continuing to drive a more serial activity as it relates to selling, rather than it being a once every several years single event.
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A
The evolution of LP's own allocations to private equity has also played into more repeat sellers coming to market. Behavior can be tracked to give clues as to how much LP LED activity we could see in the years to come. Key explained.
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D
If you think about how the market has evolved over the last 10 years, when I say the market, private markets in general, not just the secondary market, it's been characterized by new entrants coming into the market. So new institutional investors that previously didn't have private markets allocations have identified private markets as something they want in their portfolio. And then for those who were in private markets 10 years ago, their allocations have generally increased. And so when you think about that trend, that inevitably is going to continuously supply new sellers into the market. If you only have a 1 or 2 or 3% allocation to private markets, there's probably a good chance you really never need to sell because it's such a small part of your portfolio. But if all of a sudden private markets become 10, 12, 15, 20% of your overall portfolio, then whether it's the denominator effect, a slowdown in IPO activity, a decline in M and A activity, the chances of you wanting or needing to sell become much higher because of your relative exposure to the asset class. So I think both the migration of new entrants into the asset class and the rising levels of private markets allocations within institutional investors portfolios both have contributed to increased numbers of new sellers. The last point I'll make is because of the long term nature of private markets, even a new entrant to private markets is unlikely to be in a position where they need to sell within the first four to five years of investing in the asset class because your portfolio is still very nascent and coming into its own. And so even those institutions that have come into private markets over the last four to five years in general haven't sold yet because their portfolios are so immature. And so there's even a kind of crystal ball ability to say, well, someone who's been new to the asset class, say four years ago, probably hasn't sold yet, but probably will need to at some point in the next five years. As a first time seller, when thinking.
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A
About first time sellers in the market today, it's important to divide first time private equity sellers from first time sellers overall. Milan told me one of the main drivers of secondaries activity as the market looks forward is going to be expansion within private markets asset classes.
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B
So the credit market, the real estate market, the infrastructure market, and maybe the fund of funds market are, you know, four areas that have increased their relative activity over the past, you know, two years in a very meaningful way. I think predominantly the market, you know, which is still probably 2/3 buyout focused activity today really only had VC growth as the other asset class that was trading alongside of it. So when we think first time sellers going into those other asset classes might be bringing in new teams and ultimately brings on a first time element to their sale activity. And then certainly as we think about the overall market, there are many first time sellers across all asset classes. Just given many of the liquidity pressures that are being faced by LPs in the current environment where there has been a meaningful slowdown of distributions and there has been a meaningful call from the general partner community of capital for newer larger vehicles that has come forward. So those two points of intersection have really driven a need for liquidity and have brought more sellers to the market relative to years past. We've heard anecdotal statistics that over the last 12 to 18 months, 50% of the sellers that have come forward have been new sellers. I think it's a statistic that we're continuing to track. But you know, certainly the majority of the market, either within the asset class or in terms of expanded activity, is certainly testing the market in a much, much broader way.
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A
There is strong demand from LPs for secondaries transactions today. However, the secondaries market is as often discussed, constrained by the amount of capital available to deploy. So what's Milan's advice to investors for.
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B
Achieving key goals in many of the client situations that we engage in today and maybe differently than years past? I think that LPs are looking for a real understanding of all options, not just the best priced options but and they're also looking to make sure that they understand the trade offs between options and also I think really want to understand the view on the go forward potential for the assets. Much more specifically. I think those are three changes that we've seen really increasing in terms of the frequency and also the variety of questions that are being brought forward from LPs that are looking to sell. So for instance, I think that a big part of our activity today, differently than 10 years ago, is thinking about portfolio construction. I think that a big part of our advice to clients is to bring the right portfolio forward. Don't bring something that is too large and provides too many disparate options to the market because ultimately that might lead to a transaction that skews in one direction relative to objectives, better pricing assets versus a more comprehensive solution across vintages, across asset classes. I think the other is, you know, there's been much more thought around making sure that you're selling assets at the right time, that There is not a certain level of go forward return that you're giving up to the market by selling too early. So there is also some thought about where in the harvest versus asset maturation period you are before bringing a portfolio or specific sales forward. And then I think also the range of options. I think the trade off between a traditional straight sale versus a preferred equity solution that might advance partial liquidity and give you a share of the upside, or doing a dividend recap with financing that that may bring forward 50% liquidity today, but allow the portfolio to maybe mature through some volatility. Those are the types of inflection points that we're looking to really advise on today very differently than in a regulatory driven environment. Just to go back 10 years, it was how much liquidity can we bring forward and what is the best price that we can do it at? It was a very black and white discussion. It's a much more nuanced one today, for the most part across the market.
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A
As more LPs become repeat secondary sellers, what's buyer best practice to solidify strong relationships?
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D
Look, I think buyers value the opportunity to have repeat transactions with sellers. In some ways, how you behave, how you interact with a seller in a transaction really tees you up for having an opportunity to repeat that success in the future. Said another way, if a seller has a bad experience with a buyer, you can be sure that that seller will not look to transact with that buyer again should they come back to market. So in many ways, having the opportunity to transact with a seller for the first time really is a chance to create that first impression and endear yourself to that seller as a counterparty that that seller wants to work with the other opportunity that creates for buyers. You get to know that seller's portfolio. Sellers often come to market with a portfolio that is larger than what they may ultimately transact on. And there's value as a buyer in learning what that seller owns, especially for buyers that may also own those assets in their own book. And so having a breadth of exposure to private equity funds, whether it's in a secondary program, a primary program, or the look through exposures you have in a co investment program. By understanding and learning what sellers own outside of what they may have previously sold, you can position yourself that much better to be able to provide liquidity options to that seller in the future because you know what they own. And you may be able to create a prepared view on what you'd be willing to pay for those assets so that if and when that Seller comes back to market in the future, you've got a head start and essentially can move more quickly because you're aware of what they own. You have a view on what you may pay in terms of the price and that can really create a competitive advantage for a buyer.
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A
Looking forward, Milan and Key offer predictions for LP led secondaries activity over the next decade.
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B
I think with respect to the next 10 years and LPs approaches to the market, I think that we need to discuss how LPs will make tactical shifts from being sellers to buyers much more frequently. And so I think that's going to be one material change. We're seeing it today where LPs are investing in GP led activities, some more concentrated direct deals at the same time that they're doing LP portfolio sales to trim certain vintages or to move away from certain managers that they may not be re upping with. So I think that being on both sides of the market is going to be an evolution and a change that we're going to see more and more. We also think that LPs will be much more frequent in their activity in the secondary market. I think that as LPs are receiving elections from GP led deals on a quarterly and in some cases monthly basis, depending on the breadth of their portfolio, it's causing their investment committees to think about liquidity more often. And that has had a spillover effect into thinking about if those individual events need to be added up across the portfolio. Let me be more strategic in how I think about using the GP market and the LP market to manage liquidity over time. So we're seeing that as another shift that is really driving a different and more frequent conversation with LPs around how they think about engaging the market more actively as we think about active portfolio management. And I think Jeff's point around maturation I think will only be an accelerant to both of those forces that I just described.
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A
Key started at a high level. Thinking about how private markets as a whole will evolve over the next decade.
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D
I'd say two key themes I'd pick on. The first is that private markets will absolutely expand and likely expand dramatically over that period of time, both because of new entrants to the asset class and our expectation that private markets allocations will continue to rise. And so because of the derivative nature of the secondary market relative to private markets, the secondary market, I think you have high confidence the market will continue to grow and 10 years from now will be an order of magnitude larger than it is today. Much like Today's market is four to five times the size of the market 10 years ago. The other theme that I think will be more different over the next 10 years than the last 10 years is, is the introduction of retail and high net worth investors in private markets at a much greater scale than what they have been historically. And the common denominator that will apply across both a growing market and having a greater proportion of capital come from individuals will be a continued demand and even an increased demand for liquidity. And the secondary market fundamentally exists to make private equity a more liquid asset class. And so I can't think of a greater tailwind that will drive selling activity than those two dynamics. And so I think what you'll see is again, greater level of overall number of sellers. I think you'll see sellers having greater comfort in transacting in the market and you'll have a greater depth of options as sellers in order to monetize portions of your private markets portfolio. And so I think overall volumes will increase, greater number of sellers, greater degree of churn within private markets fund and just a greater value that institutional investors and individual investors will place on the liquidity that the secondary market can provide.
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B
And I think we need to also say that technology will underpin the frequency of transaction events in the market. So more individuals and or institutions bringing transactions forward in a more efficient way also needs to be part of that LP equation. And so I think we've been spending a lot of time thinking about the LP transaction process, which typically takes, you know, three months on average. It can be shorter depending on the complexity of the transaction. But in essence, that beginning sort of setup period of getting NDAs in place and getting consents from the general partners and getting information, you know, available to support diligence and then certainly on the back end with the assignment of those interests from one transaction party to another, and working through both sides of those equations certainly can be condensed with technology. And it is, you know, part of the engine that I think is driving expansion of the market as well is that, you know, we're seeing many more efficiencies around, you know, the legal process and the onboarding process and the information sharing process to really drive, you know, the ability for buyers to engage more efficiently in an individual transaction and certainly the volume of transactions that they choose to engage in as well.
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D
I think technology will play a critical role in many aspects of secondary transactions. First, I think it will take out some of the more manual labor intensive aspects of the actual transfer process. Perhaps the greatest benefit or change will be on the buyer side in the sense that buyers with both the technology and the data to be able to take advantage of again, decades of private markets data using that information to inform how they price and evaluate and ultimately predict how assets will perform, will enable those buyers that have those benefits, those attributes, to be able to move with more speed and conviction versus those who may be still doing things the old way, so to speak. So I do think that is a change that we're experiencing real time, whether it's through just greater computing and technology tools, leveraging AI, that should translate into benefits for both buyers and sellers in the form of more speed, more efficiency, less uncertainty in secondary transactions.
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A
The availability of dry powder also needs to be addressed in the years to come. Milad explained.
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B
I think that beyond being able to process more transactions, I think that there is a need for more capital across the market, both LP and gp, to really address, you know, the needs of liquidity. And if we see all these trends of more new sellers repeating the activity and ultimately the maturation of portfolios driving the need for more liquidity events, the market needs to expand the capital base that can address that coming supply in a meaningful way. And so I think that we expect the largest players to get significantly larger. You know, we had several funds eclipse the $20 billion level, you know, in this fundraising cycle. I think many expect that secondary firms will increase and cross the $30 billion level in that next decade. Certainly several should reach that level, especially across the multiple sleeves of capital that they're raising. And ultimately, I think the amount of new entrants coming into the market to maybe address specific facets of liquidity needs will also be a trend that will drive the market being able to expand and further demand to address the supply. So I think those are trends that we're watching. You've had a lot of consolidation on the buy side into larger platforms, but you've also had many new entrants filling in other gaps that may not be addressed by these firms that have leveraged larger platforms to increase their aum.
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A
In our next episode, we'll take a look into how far secondaries has come in terms of specialization and cross asset class appeal. Appeal.
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D
Vision is the art of seeing the invisible. So you're predicting what people will want. You know, the old adage of Ford, if you ask people what they wanted, they'd say a faster horse. You're looking for both a gap in the market and a market in the gap.
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A
That's Jeremy Collar, founder and CIO of Koller Capital, talking about increasing specialization and Secondaries deployment in the next episode of the decade of Secondary's investing miniseries. The production editor on this miniseries was Evie Russman, and our audio editor is Eric Fish. For links to the several articles we mentioned from Secondary's investor in this episode, be sure to check the description or head straight to secondariesinvestor.com For PEI and secondaries investor, I'm Madeline Farman. Thanks for listening.
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B
Sam.