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A New Appreciation for Alternative Asset Managers

By Benjamin Sinclair HBA, CFA, Equity Analyst
Wednesday, August 25, 2021

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At its Investor Day in September 2020, Brookfield Asset Management CEO Bruce Flatt shared a statistic that would have been unthinkable 20 years ago: the world’s largest pensions have invested 25% of their money in so-called Alternative Investments, a broad term that includes Private Equity, Private Credit, Infrastructure, Real Estate and other illiquid asset classes. This is up from 5% in 2000, reflecting the growing enthusiasm for alternatives from institutional investors.

Generally speaking, these investors are right to be enthusiastic, as alternatives have tended to provide better returns than stocks and bonds. As an example, a recent simulation by Pitchbook found that adding a 20% Private Equity weighting to traditional 60/40 stock-bond portfolios increased returns by 0.6% annually from 1997 to 20201.

There are no signs of these trends slowing down, as surveys show institutional investors plan to continue increasing allocations to alternatives. Endowments already devote more than half of their money to such strategies. By 2030, Brookfield expects alternatives to account for 60% of pension assets, which seems realistic to us.

Individual investors still have less than 5% of their money invested in alternatives2, and for good reason. These investments are typically reserved for accredited investors, which usually refers to very wealthy people. High fees, complex arrangements, and multi-year lockup periods pose further obstacles. Fortunately, there is a better way to gain exposure to alternatives: invest in the common shares of alternative asset managers.

Alternative asset managers possess all the traits we seek in worthy investments. They tend to be consistently profitable thanks to high fees and locked-up capital, and they are part of a growing industry. Better yet, many of them have fantastic track records, in particular when times are tough. There’s no better example of that than their performance during the COVID-19 pandemic.

Stepping on the Gas Pedal
In 2020, a year when much of the economy shut down, and banks were on their back foot, alternative asset managers leapt into action. For instance, global private equity deal volume increased by 8% in 2020, with particular strength in the second half of the year3. By comparison, merger & acquisition activity fell by 6%4, indicating that businesses as a whole were holding back during such a volatile time.

It was certainly the right time to be buying assets. Not only were prices depressed, but many companies were in desperate need of funding, allowing capital providers to bargain for favourable terms. Governments around the world responded with large rescue packages, but many companies still had complex funding requirements, which is where alternative asset managers tend to find the best opportunities. Fast forward a year, and many of these investments made last year are paying off handsomely.

Still Plenty of Skeptics
Alternative asset managers have their share of skeptics, who point to unpredictable earnings, convoluted financial statements, and complicated corporate structures. As an example, one large alternative asset management company’s annual report is nearly 800 pages long!

Such skepticism was on full display early in the pandemic. From the pre-COVID market peak on February 21, 2020 to the trough on March 23, the five largest American publicly traded alternative asset manager stocks5 declined by an average of 45%. Meanwhile the S&P 500 declined by only 34%. Investors were perceiving the alternative asset managers as being vulnerable, even though they mostly spent the ensuing months playing offence.

Our Long-Term Bet
Since March 23, these stocks have increased by an average of nearly 200%, and each are trading near their all-time highs. Over the past five years, they have handily beaten the S&P 500. Yet they still trade at very attractive levels relative to their earnings and growth rates, which we see as a reflection of investors’ continued skepticism.

We see a great opportunity to continue investing in this sector. And, given how institutional investors increasingly view alternatives as mainstream, there’s no reason individual investors can’t take the same approach by investing in alternative asset managers.

For more information, please speak to your Odlum Brown Investment Advisor or Portfolio Manager.

Pitchbook Research, “Does an Allocation to Private Equity Add Value?”, July 2021

KKR Investor Day, April 2021

3 Bain 2021 Global Private Equity Report

4 Evercore 2020 Annual Report

5 Blackstone, KKR, Apollo, Carlyle, and Ares

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