Yes. Secondaries, the “yang” to the “yin” of primaries and an investment strategy nearly as old, are growing, particularly GP-led secondaries, which have grown 43% annually over the last nine years. Measured as a percentage of total fund commitments, secondary transaction volume comprises a mere 10% of the overall market annually, so still quite nascent in nature, but it is expected to increase as LPs and GPs alike increase their utilization of secondaries for portfolio management and as a differentiated source of private investment return.
LPs usually realize primary fund investments in one of two ways: allowing the fund investment to become fully monetized over time or exiting by selling a fund interest to another buyer. The second way, via a secondary transaction, has entered a new phase of activity. Historically, there were several reasons why LPs sought to reduce fund exposures through secondary sales: raise liquidity, change investment strategy, manage portfolio exposures, discontinue manager relationships, manage resources, etc. As for recent activity, this primary secondary LP strategy, if you’ll excuse the pun, was responsible for $25 billion in secondary transaction volume in 2020.
Over time, the secondaries category has expanded to encompass other forms of private investment activity. For example, in a direct secondary, third parties acquire interest in or ownership of individual companies from a fund. Depending on the resulting securities and ownership, the acquiror would need to manage that investment to a productive conclusion. In GP-led secondary transactions, GPs agree to purchase fund interests or assets from LPs interested in exiting. By doing so, GPs extend the time they can manage the asset(s) with a view toward realizing additional value. These transactions lead to overall longer hold periods than initially advertised and allow for the possibility of involving more capital from investors. This option can extend the runway for the acquired assets, reset the return clock, and potentially attract new or renewed investors, all while providing a means of exit to those who no longer want the exposure. GP-led secondaries are complex and quite diverse in structure and require sufficient time and resources to properly evaluate. While these transactions only represented $2 billion of activity in 2012, GP-led secondaries grew to $35 billion in volume in 2020, and now comprise 58% of secondaries transaction activity.
The institutional private investment industry continues to evolve, with LPs and GPs alike pursuing strategies that enable them to invest or remain invested in pre-identified assets expected to provide a competitive return. Similarly, the biodiversity of secondary transaction types is also increasing, which expands the range of return profiles that investors can consider. Secondaries also afford greater investment visibility than blind pool investments; investors can underwrite them, form their own view of potential risk and return, and act on their conclusions. With just 10% of current fund commitments expected to trade as secondaries, it would appear there is room for the strategy to grow as an effective portfolio management tool for both LPs and GPs.The emerging catch-all nature of secondaries, all centered around acquiring a fund interest in some way, shape, or form, seems to be expanding to fill many different investor types and appetites. As we’ve noted elsewhere, secondaries can be additive to private investment programs due to their typical shorter duration and earlier liquidity profile than many private investment strategies. The average secondary fund achieved at least a 1.0x distributions to paid-in (DPI) multiple in 6.7 years, comparing favorably to global private equity funds and private equity funds-of-funds that reached the same milestone in 7.5 and 10.0 years, respectively. Getting your cash back faster has its appeal.