Word from the top
Private market titans share their view on the current market and future developments
Scott Kleinman, Co-President, Apollo Global Management
“Before interest rates changed, there was a sense of delusion. Buyout capital was being deployed at ever-increasing valuations using ever-increasing amounts of leverage at seriously low rates.
“That quickly ended when the era of free money ended and now, we see a willing suspension of disbelief. We’re in a world where interest rates have moved by 500 basis points, yet private equity valuations have not moved to the extent you would expect. The fact that we haven’t seen 20% to 40% markdowns, and the world hasn’t blown up, is taken by many as a signal that everything will be OK.
“Everything is not going to be OK.
“In a world of zero interest rates, if you bought a good company and didn’t fundamentally screw it up, you probably sold it for more than you paid for it. As a result, a massive amount of capital went out the door in 2018 to 2021. Today, LPs and GPs are going to have to get used to a statement they haven’t heard for 15 years: I bought a good company (and I’ll insert the part that doesn’t get spoken – I massively overpaid for it) and now it’s going to be a bad investment.
“If you want to get back to the multiple you paid, you have a 10-year plus hold and that will eat into returns. If you also used too much leverage and now, you’re in year six or seven, you have a refinancing coming. That debt you took out at 4% is going to be refinanced at 11% to 12% and that’s going to impact returns. Maybe you need to relever at a lower multiple, but who is going to put in the remaining finance? We will see a degradation of returns but that won’t happen until the pig moves through the python.
“Maybe we didn’t get the memo that the cycle was going to last 14 years, but we did stay very true to value discipline. Our last fully invested fund, a 2018 vintage, is marked at a six and a half times multiple – that’s probably lower than the leverage of many of our peers. That’s why we’ve been able to monetise.”
Harvey M. Schwartz, CEO, Carlyle
“We’re in the early stages of a paradigm shift and many of the market participants today are quite young.
“For my generation, great things could happen – the global economy was growing fast, geopolitics was relatively stable and globalisation led to a very efficient allocation of capital. Today, many of these are slowing or going into reverse. These will be driving how we create value over the next five to 10 years.
“We all suffer from recency bias to a degree. There is clearly information to be gained from a historical perspective, but as macro investors, it’s all about deploying capital where trends will drive value. There is a general desire for interest rates to lower or even return to zero. Yet it’s not something we should be wishing for because that would mean we’re having a hard landing or there is a dislocation. By not reducing rates, the central banks are giving themselves the policy flexibility they didn’t have when rates were zero.
“Zero is not a normal barometer for the cost of global capital. The interest rate environment today might create some challenges for people in the short term, but it is healthier because it encourages more rational decision-making among companies and investors.
“Until recently, investments and business plans were predicated on being financed at zero – that’s why around 40% of US public companies have been cashflow negative for the past 12 months. There are some fantastic companies in there and they could offer strong investment opportunities at some point, including via carve-outs and restructurings.
“There are risks out there. Yet when we think about capital deployment, we don’t try and avoid all risk. Our partners ask us to identify risk and get properly rewarded for it.
Some of the greatest alpha opportunities may come from taking more risk because the capital demand here is higher.”
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Marc Nachmann, Global Head of Asset & Wealth Management, Goldman Sachs
“We’re going back to an interest rate world that existed before 2008 and it’s an environment where investors can once again make real returns in fixed income.
“We’ve been in a benign credit environment for the past 10 to 15 years but cycles will return – and cycles expose certain portfolios. We’ve not yet seen dispersion of returns between private credit managers, but we will see this in the next cycle. The asset class will be tested.
“Over the next 10 years, private equity will go back to basics. It has been too easy to generate returns over the past decade as managers have followed a strategy of buying the best assets at the highest price at auction, leveraging at zero cost and then selling at higher multiples a couple of years later. Yet now we will see managers seek out under-managed assets and then do the work to improve businesses operationally, strategically and tactically to generate returns.
“Large allocators are now starting to look at, and dissect, private equity managers’ returns to determine where they came from. It’s important to understand who will perform well over the next 10 years – and many of these managers will have people who have seen cycles before. Private equity will be difficult, but there is an interesting environment for those with capital to deploy and value creation resources.
“Not all investors will be able to take advantage of this. Many are facing the numerator effect as distributions have not come back as fast as they had thought – it’s a good reminder that what happened with distributions over the past 10 years was not an average that investors should expect to replicate. If you can’t take advantage of the 2024 and 2025 environment because you overdid it in 2021, it’s unlikely that you will perform to expectations.”
Pete Stavros, Co-Head of Private Equity, KKR
“We’ve just come out of a period of over-deployment, where funds were fully invested within two years, or even as little as 18 months. Rates were low and valuations were high; now rates are up and transaction multiples are down a few turns. When LPs say there’s a liquidity problem, this is all part of it. LPs thought they were committing to funds that would have a five-year deployment period, yet they got rapid investment at high leverage and high multiples. They are not going to get that capital back any time soon.
“We made this mistake in 2006 and 2007 – we over-deployed right before the great recession. So, fortunately for us, we made this mistake four fund cycles ago and we didn’t repeat it this time. We learned that we should never over-do any vintage because no-one knows where the world is going. The industry should be fine with acknowledging mistakes as long as we put processes in place so we don’t make them again.
“We are now religious about linear pacing in our funds. We invest over five years, deploying a fifth of our capital each year. This does hurt us in DPI and MOIC relative to our peers, but we now get the credit for having done this over several fund cycles. It’s not because we’re smart; it’s because we already made this mistake and took our licks.
“As private equity investors, there are a lot of levers we can pull to create value and the next big opportunity is in driving culture change.
The industry is great at driving operational change, but it needs to look more at the people in a business because they are at the vanguard of value creation.
“Our firm is responsible for around 800,000 employees around the world – that’s a massive responsibility and opportunity. Most people don’t like their jobs and a lot hate the company they work for. Ownership Works is one way of addressing this because if you can unlock people’s potential, they can do great things for investors and themselves.
Importantly, this isn’t just about giving employees stock; it’s about having leaders in place who genuinely care and feel their responsibility to lift people up. Employees who feel supported, have a stake in the business and understand how their work contributes to the company’s financial value will put their shoulder into what they do for the business. That’s how you bring about culture change.”