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Diversifying your portfolio with private equity

Investments in private equity should be globally diversified across funds, strategies and most importantly: vintages.

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Credit Suisse's exclusive annual private equity programme invests in several underlying funds diversified across strategy, geography and vintage and puts together a portfolio of well-performing managers.

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Salman Shah (left) and Chen Liangzi

AFTER a turbulent year in 2018, many investors are looking for ways to reduce risk and diversify their portfolios. Adding alternative investments such as private equity is one of the ways to do this.

Alternative investments are any asset other than stocks, bonds, and cash, and which can act as building blocks to diversifying portfolios. Hedge funds, commodities, and real estate are all considered part of the alternative investments universe, not to mention private equity.

Private equity funds take equity stakes in companies or assets that are not publicly traded and "work" the asset in order to increase its value to be able to sell it again at a higher price. Investors, mostly institutional or accredited investors and high-net-worth individuals, can put their money to work in a different way, as an alternative to buying stocks in companies that are listed on public markets.

The investments can be used to finance startups (venture capital), inject working capital into a growing company (growth capital), acquire a mature company for growth or reshaping (buy-out), or purchase assets or loans that are in distress and need refinancing (special situations/distressed debt).

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The potential for generating returns

Private equity tends to outperform public markets. This is driven in particular by the fact that these assets are privately held, allowing managers more time and control to implement value-creation strategies.

An important factor to investors in creating excess return is the selection of best-in-class, hard-to-access fund managers. This, however, requires a disciplined due diligence process and access to a broad network of high-performing funds. Going one step further, the various strategies under private equity can each present interesting opportunities as well as risk reward profiles.

The growing capital allocation into this asset class has enabled the growth of many other strategies on top of the traditional buyout and growth ones. In addition to the traditional buyout strategy, we at Credit Suisse have paid particular attention to Secondaries, Infrastructure as well as Special Situations strategies too, as a way to diversify our clients' exposure to private equity.

There is no shortage of experienced managers in each of these strategy spaces, and we continuously are looking for good solutions to complement the clients' portfolios, either in a single fund format or portfolio approach.

Investing in private equity

Investments in private equity should be globally diversified across funds, strategies and most importantly: vintages. The latter refers to the year in which the fund makes the first investment.

Unlike investments in traditional asset classes, the commitment in private equity is gradually drawn over the investment period (anywhere between three and five years) and does not require an upfront investment of the entire amount.

Over time, investors should aim to build a self-financing private equity portfolio that has sufficient distributions to cover future capital calls.

This very concept is behind the creation of an exclusive annual private equity programme at Credit Suisse that allows clients to gain exposure to the private equity space through a basket of funds.

This programme invests in several underlying funds diversified across strategy, geography and vintage and puts together a portfolio of well-performing managers.

Each of the managers tap the respective strategies of private equity, and can offer clients a comprehensive solution without them going through the often tedious process of due diligence themselves. By making it an annual series, the programme is not only able to pace clients' commitment into this asset class, but can also achieve better cashflow over time.

A common barrier to enter this asset class, given the scale of the investment and funds, is the relatively large commitment size required from investors. While most institutional investors would have no difficulty accessing funds directly, the usual commitment size required could potentially pose a barrier for private clients to participate in.

For this, we have put in place the feeder structure where the minimum commitment size is lowered for our clients, usually to a more digestible size.

Opportunities in the private equity space

In the current market environment, it is critical for us to continue to closely engage with our clients to help them navigate these markets with high conviction investment ideas that can generate decent risk-adjusted returns. We believe that strategies in private assets, especially private equity, present good opportunities for investors who are keen to seek diversification from the public markets.

  • Salman Shah is head of alternative fund solutions Singapore; while Chen Liangzi is product specialist; both are from Private Banking Asia Pacific, Credit Suisse.