ORLANDO, Fla., Feb 3 (Reuters) – Facing the prospect of
poor returns in traditional markets as interest rates rise, and
with a natural desire for minimalist oversight, hedge funds and
family offices are sharpening their focus on private markets and
The appetite among thousands of attendees at a trifecta of
hedge fund and alternative asset conferences in Miami at the end
of January to find new avenues for ‘generating alpha’ was
But as these sophisticated investors plow more cash into the
shadowier parts of the investment universe, regulators are
sharpening their antennae to the potential threat this poses to
financial stability and even systemic risk.
The U.S. private equity and debt markets were worth a record
$4.1 trillion at the end of June 2021, according to industry
data provider Preqin, comprising $3.25 trillion of equity and
$826 billion of debt. That’s up 44% from pre-Covid levels in
The global total exceeds $6 trillion, and a broader measure
of worldwide private market investments is nudging $10 trillion,
Preqin data shows.
According to one Securities and Exchange Commission
official, the total U.S. private investment universe including
hedge funds, venture capital and other markets has more than
doubled to $11 trillion since 2013.
The S&P 500 may have returned a juicy 28% last year, but
that anomaly will not be repeated this year with interest rates
about to rise. The BofA U.S. Treasuries index fell 1.9% in
January, its worst start to a year since 2009, and will also
remain fragile as borrowing costs rise.
Private markets offer a potential escape.
Data from Cambridge Associates shows that in the 10 years to
2021, private equity and venture capital strategies outperformed
Wall Street. They enjoyed an annualized return of 16.67%,
marking a 1.92% premium over equities, and also outperformed
hedge funds by more than two to one.
There is money to be put to work too. Blackstone, the
world’s largest alternative asset manager, last week said it
expects to reach its goal of managing $1 trillion in assets this
year, much earlier than a previous target of 2026, and has over
$135 billion of unspent capital.
TIGHTER REGULATION AHEAD
Eric Noll, chief executive of Context Capital Partners,
notes that the sense of skepticism and cynicism toward
traditional financial markets that exploded in the retail
investor world last year has spread to the fund community.
“What we are seeing now is an appetite for the new. They’re
looking for opportunities to put money to work anywhere they
think that they can maybe have an advantage,” Noll told Reuters
at the Context-hosted conference.
For the big players, private debt may offer more potential
than equity because tighter Fed policy should make capital more
scarce and more expensive. That means private lenders can
command higher rates of interest, perhaps 10-15%.
“Because capital is moving out, there is going to be a need
for people like us. We’re happy to take these risks, Marc Lasry,
chief executive officer at Avenue Capital Group, told a panel at
the iConnections conference in Miami.
“Where there’s volatility, there’s huge opportunity,
especially on the credit side,” he said.
But as the schmoozing and deal-making was heating up in
Miami, the SEC in Washington was putting forward proposals to
improve private market oversight and strengthen “financial
stability and investor protection”.
SEC Chair Gary Gensler said the government’s transparency
into private funds was “scant at best,” and the SEC will propose
further rules around funds’ reporting of positions and flows
later this month.
This follows minutes of the Fed’s November policy meeting
which showed “a few participants” expressed concern over
potential risks to the financial system, including “the growing
exposure of banks to nonbank financial firms”.
These are the less-regulated, privately-owned entities
comprising hedge, private equity and debt, and venture capital
funds. Once liftoff on rates is out of the way and quantitative
tightening begins, these issues will likely on the Fed’s radar.
The political and regulatory wheels in Washington, however,
grind slowly, so concrete measures to make private markets less
opaque may not be put in place until next year at the earliest.
It remains to be seen if regulators’ bite is as effective as
their bark. As the partner of one California-based private
equity fund puts it: “What is initially proposed is always
over-reaching. The proposals won’t even get close to passing.”
(The opinions expressed here are those of the author, a
columnist for Reuters.)
(By Jamie McGeever, contributions from Katanga Johnson, Editing
by Alexandra Hudson)