October 16, 2019


This article is the second in a series of seven exploring private equity investment, and it focuses on the “lower for longer” returns expectation from traditional asset classes, as well as some fundamental shifts in those markets.

It is easy to forget how serious the global financial crisis was. As a quick recap, some banks had provided mortgages irresponsibly to borrowers who could not repay the debt and then went and sold those “toxic” loans to other investors in a bond format. When property prices started going backward (implying borrowers’ debt was more than the house they owned, which led to defaulting on the mortgage) the house of cards came down. At that stage there was a very real risk of consumers losing faith in the entire financial system, which might potentially have led to an implosion of financial markets, hurting everyone severely. Central banks responded by printing money and buying these bonds (called quantitative easing or QE). They flooded markets with liquidity, which brought stability and gave Joe Soap some confidence in the system again.

The necessity for central bankers to intervene to protect the financial system in general, is an important backdrop for the conversation around what the real impact was. Whether or not you agree with QE, it did stabilise the global economy. Nonetheless, in investments, there is no such thing as a free lunch. Printing money was tantamount to borrowing from the next generation. This debt is still a drag on growth.

In addition to carrying this burden, the current economic / trade wars for global supremacy are weighing further on global trade and therefore economic growth. Apart from the direct impact of tariffs and exclusions, there is the secondary effect of uncertainty driving cautious behaviour.

This is a tough environment for investment markets!

Traditional asset classes have an additional challenge – structural changes to investment markets. The number of listed companies globally is reducing considerably.

In the USA, there were about 23 listed companies per million US citizens in 1976. Today, it’s closer to 11 per million, according to a new report by economist René Stulz, issued by the National Bureau of Economic Research (NBER). This is a significant reduction.

The number of firms choosing to list their shares on UK stock markets hit a decade-long low in 2016. And listed companies in South Africa have reduced from near 600 in 1994 to only around 300 at present.

Investment activity has shifted, however, to private markets, where the Nasdaq Private Market numbers set a new record in deal flows in the first half of 2018 already – private equity seems to have taken significant volumes away from listing activity. These private markets have evolved to be able to provide sufficient capital for growing firms without needing to list on the stock market.


  1. Onerousness of listing: Disclosure requirements for a listed company are very onerous. Furthermore, listed companies pay significant amounts of money to the stock exchange annually for their services.
  2. Short-termism: Investment analysts are often obsessed with trends in corporate earnings, and the slightest hint of a slowdown in the speed of earnings growth from one half year to the next can place pressure on management for short-term solutions (or place pressure on the share price by investors selling the stock).
  3. Control: Shareholders can be quite uncompromising in terms of improving short-term results of a company, which may be bad for long-term growth prospects. It is beneficial for founders and / or management to be able to take a longer-term view to business strategy. Control can be abused too, but it is a fine balance.
  4. Balancing stakeholders’ needs: Listing and governance requirements have pushed listed companies to implement more and more extensive governance processes, procedures, checks and balances and independence in decision-making, sometimes leading to indecision or at least a lack of a nimble response to opportunities and / or threats. Conversely, private equity funds focus management’s attention on the long-term health of the organisation. The latter has been touted as a more effective way of managing sustainability considerations, by NB Hudson in his paper “The flourishing firm”, as presented to the Actuarial Society in 2015.
  5. Structural changes to business: There have been certain structural changes in business which imply a lesser need for capital in order to build a company. The sharing economy has brought down overhead costs and improved the ease / reduced the friction of doing business. Platform businesses, such as Airbnb, Uber and Facebook, have no stock to warehouse due to their assets being in the form of intellectual property, which has led to such businesses waiting much longer in the business cycle to consider going public.

It does not seem it will happen anymore, but Elon Musk was “considering taking Tesla private at US$420” per share and would still have preferred the company to be private. This is the view of one of the most respected global business leaders – considered a visionary / entrepreneur. This is serious food for thought. It may say something about future trends in how innovative, disruptive companies raise capital.

It would be unfair to infer that lower returns on listed assets recently is a direct consequence of this business trend away from listing businesses on an exchange, but it can certainly be seen as one of the drivers.

Arguably the most revered investor in the world, Warren Buffett, has been managing the lion’s share of his wealth by buying unlisted businesses and holding on to them. Fortunately for the rest of us, he made an investment in this company available by offering it as a listed company. This structure benefited those who had limited wealth and therefore did not have access to unlisted investment opportunities directly (though now one share in Berkshire Hathaway may also be too expensive for many investors).

If retirement funds would like to invest in a representative sample of companies in their economy, they would need to shift some capital to private markets due to the number of companies that have shifted capital raising efforts there. If trustees would like to make up for the current lower returns environment, they will have to consider shifting even more exposure to private markets.

Willem le Roux
Principal Investment Consultant and Actuary