Private markets, once considered niche and only for institutional capital, are fast becoming important components of many modern investment portfolios as investors seek to enhance diversification and long term returns.
Diversification is a cornerstone of sound portfolio construction, but the traditional asset classes of equities and bonds are often highly correlated with broader market movements. By contrast, private equity investments typically behave differently, offering uncorrelated returns that can help buffer the impact on portfolios of economic shocks and market downturns.
This is especially relevant today. Public markets are showing signs of vulnerability, with valuations in many sectors elevated by historic measures, and volatility increasing. In this environment, private markets offer a compelling alternative, one that allows investors to access growth opportunities not available on listed exchanges in order to add a further layer of diversification. AUM within private markets is forecast to grow at double the rate of public markets, reaching £65 trillion by 20321 and private equity is expected to be at the forefront of that growth.
The private equity sector has traditionally enabled investor access to the asset class through blind pool funds. However, as investor knowledge and demands have evolved in recent years, deal-by-deal investment structures have seen increasing capital inflows as investors seek greater investment choice and flexibility in customising a portfolio that aligns with their risk appetite and investment objectives. According to data published in the Financial Times by the private equity advisory firm Triago, global capital deployment made through the deal-by-deal model hit a record US$31 billion in 2023, a 400% increase from 20192.
The expanded range of structures available to investors enables a choice to be made between the scale and diversification achieved through a fund model or the flexibility and transparency offered by a deal-by-deal approach. Here we examine the key characteristics of both approaches.
The structure of almost all private equity transactions, whether through a fund or via a deal-by-deal syndicate, is built using a limited partnership agreement - a framework which governs the relationship between the General Partner (manager), Limited Partners (investors) and all other stakeholders.
The GP plays an active role through every step in the deal process and is accountable for investment performance. A GP typically sits at the top of the legal structure of a private equity firm, where it directs strategy, fundraising, and corporate governance.
Private equity funds are closed-end funds managed by experienced private equity firms who serve as the GP. A traditional fund will have a typical lifecycle of around 10 years, with investments being made during the investment period, which is usually the first 3 to 5 years. At the outset, investors commit to the amount they will invest and the GP will make drawdowns from investor commitments when investment opportunities are sourced.
From there, in what is known as the ‘harvesting’ period, the GPs will use their experience and expertise to accelerate value and help ambitious private companies scale and unlock their full potential.
Private equity investments are considered a long term investment and are therefore not a suitable asset class for investors with a short term investment horizon.
It is this active management that is a key difference between public and private markets. While active management in public markets means professional fund managers are proactive in making decisions around which securities to buy, hold or sell, private equity firms take active management to the next level by collaboratively working with the management teams of each portfolio company to provide strategic and operational support. This often involves taking a non-exec seat on the board, facilitating a close working knowledge of the trading performance and prospects of a business to ensure that it achieves its growth target.
Each fund will have a pre-determined investment strategy such as a specific focus on sector, geographical location or the stage of growth of the businesses it backs. For example, venture capital funds back earlier stage businesses, which brings higher risk but the potential for higher returns. A buyout fund targets later-stage businesses that are already profitable and have a proven business model, helping these businesses shape and deliver growth strategies that add value such as buy & build.
During the later part of a fund’s life, where the underlying assets have typically increased both revenues and profitability, the private equity manager will seek an exit for investors, either through a trade sale, secondary buyout or an IPO with any proceeds being returned to the LP, minus management fees and carried interest (if applicable).
In a deal-by-deal private equity model, such as that used by Maven Investor Partners, investors are typically provided with a detailed investment proposal of the target company, which includes full market and commercial analysis, alongside key findings from third-party due diligence, and an estimate of the projected returns. The decision to participate then rests with the investor. There is no upfront commitment or lock-in.
The deal-by-deal approach provides increased visibility and choice for individual investors, enabling them to build their own private equity portfolio based on preferred sector exposure, investment objectives and risk tolerance, but underpinned by the investment management expertise of the manager. It also enables investors to gradually build up their exposure to private equity through a lower minimum commitment (typically from £25k per deal) than is generally required for a fund investment.
Investors’ money is not ring-fenced for future drawdowns and generally will get to work immediately as the opportunity has already been identified. The deal-by-deal structure also benefits from being able to make more opportunistic or reactive investments, which some funds may be unable to do because of pre-agreed parameters. This is especially relevant today, where new technologies are coming to the fore at increasing speed, or when economic uncertainty means that a manager needs to adapt its investment strategy to be more defensive, as they will not be constrained by a fixed investment thesis.
Once the investor has decided to invest, the private equity manager (GP) will then manage all aspects of the investment through to ultimate exit, as they would for a fund investment. For investors who prefer to make the decision on which specific companies they invest their money in, deal-by deal offers the best of both worlds - more control and choice over the assets in which they invest, with the benefit of the expertise and track record of a seasoned private equity house which can create value and drive growth through active portfolio management. However, depending on how many investments an investor makes, deal by deal investing may not offer the same level of diversification that a fund does.
The choice as to whether to invest in private equity via a fund or deal by deal ultimately comes down to the preference of the investor. For individuals who are limited on time, they may prefer investing via a fund, as they do not then need to read and analyse all of the information about an investee company before making a decision to invest. For others who prefer to have greater control over each investment decision, deal by deal investing may be the preferred route.
Sources:
1https://www.bain.com/about/media-center/press-releases/2024/private-market-assets-to-grow-at-more-than-twice-the-rate-of-public-assets-reaching-up-to-$65-trillion-by-2032-bain--company-finds/
2https://www.ft.com/content/d40aac38-b4ab-4419-bf27-390468489101