Topic Tags: U.S Economy

Best Historical Performing Asset Class Is on Sale!

It is critical for institutional investors to understand the importance of both relative and absolute value when considering investment allocations. From a relative value perspective, private equity ­— which has been one of the most desired and consistently best performing asset classes over the last 20 years — is now on sale.

Following global investment volatility and panic from the COVID-19 crisis in March, the combination of government intervention along with public equity enthusiasm has driven public valuation multiples to near-record levels over the last three months with the Russell 3000 trading at 15x EV/EBITDA (S&P 500 at 23x EV/EBITDA), making the relative value trade even more compelling for private equity investments. Meanwhile, private equity multiples have been more stable, with May transactions occurring at 10x for middle market buyouts and 7.5x for small buyouts less than $100 million in enterprise value, providing investors a 35% or 50% relative discount respectively as compared to the Russell 3000. The current valuation spread provides the widest spread these markets have offered.

Private equity managers have mostly shown investment discipline, thinking longer-term and focused on absolute returns over a multi-year basis, which has resulted in a tighter range of valuations paid as compared to rising public equity multiples over the last decade. However, given the current market dynamics with the valuation spread growing, it is likely private market investors will benefit from the relative outperformance of private equity capital deployed in 2020.

This may be an opportune time for institutional investors to consider stepping back from elevated public market valuations and find ways to allocate more capital and raise their targeted allocations to private equity in order to maximize the absolute returns of their portfolios. We have seen clients increasing their annual deployment and focusing on more opportunistic strategies, including co-investment funds and secondary funds which have shorter investment periods thus allowing more capital to be deployed in 2020 and 2021.

Furthermore, private equity managers should increasingly be thinking about the relative value of the capital that has been committed to them. The last few years have provided for record-breaking fundraising for the private equity industry. This committed capital is currently sitting in dry powder and in most cases remains uncalled from investors sitting in public equity markets. Due to the current valuation spread, the relative value these private equity managers provide by finding opportunities present in the private market is great. Most importantly, more capital being put to work in private markets can expand the number of private equity-owned businesses and does not have to drive up the valuations paid, unlike in public markets where there are a fixed number of opportunities and where more capital being deployed in public equities pushes valuations higher.

Print PDF > Best Historical Performing Asset Class Is on Sale!

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Financial Factors in Selecting Plan Investments Proposed Rule

On June 23rd, 2020, the U.S. Department of Labor released a proposal to amend certain fiduciary regulation around the consideration of economically targeted investments, or those that incorporate environmental, social, and governance factors.

The purpose of this legislative update is to provide some background on ESG integration and the subsequent DOL guidance on these issues as well as a summary of the Proposed Rule and its impact on ERISA plans.

Read > Financial Factors in Selecting Plan Investments Legislative Update

For additional Marquette coverage on sustainable investing, reference our recent newsletter, Sustainable Investing in a Post-COVID World, and white paper, The Future of Investing: Sustainability and ESG Integration.

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Russell Rebalance: What Happened?

Summer has arrived and with it comes the annual “Russell Rebalance,” or as FTSE Russell — the index administrator — officially calls it, the Russell Reconstitution. The last Friday in June brings a unique set of challenges for investors managing to one of Russell’s many indices. More than half of U.S. equity investment managers benchmark to a FTSE Russell Index and the Russell rebalance affects an estimated $9 trillion across these products.¹ The entire family of Russell U.S. indices is recast to reflect changes in the U.S. equity markets over the preceding year. Essentially, the rebalance resets market cap weightings and style designations, which ultimately drive shifts in the underlying sector distributions. This creates one of the highest trade-volume days of the year.

The market’s appreciation over the longest bull market in history pushed the market cap breakpoint between the asset classes to a peak in 2018 of $3.7 billion. As a result, the market cap threshold for constituents to be placed into either the large- and mid-cap focused Russell 1000 Index or the small-cap focused Russell 2000 Index has grown 150% since the Great Financial Crisis.

This past Friday, June 26th, marked the official reconstitution day. Notable movements in this year’s rebalance revolved around a few key sectors: Financials, Health Care, Industrials, and Information Technology. The Russell 1000 saw little movement in sector allocation, while the respective style indices, the Russell 1000 Growth and Value benchmarks, experienced the brunt of change. Technology now comprises a record 43% of the Russell 1000 Growth Index, a 2.3% rise, while the Industrials allocation fell to 4.6%, from 7.3%. The Russell 1000 Value Index was the recipient of those Industrials companies, rising from 9.6% to 12.4%.

From a market cap perspective, many banks within the Russell 1000 Financials sector moved to the small-cap index as investors sold economically sensitive stocks in the first quarter of the year. The Russell 2000 Index saw a 1.6% increase to the sector, bringing the total weight in Financials to 16.2%. As expected, many of these banks qualified for the Russell 2000 Value Index, which now has a nearly 29% weight to the sector. Likely the largest hurdle for active managers navigating the rebalance is the increased allocation to Biotechnology, an industry within the Health Care sector. These securities, many of which do not make money and have no established products, go against the investment philosophies of many fundamentally driven active managers. The Russell 2000 Growth Index now has a more than an 18% allocation to the industry. As managers settle into their new benchmarks, it will be pertinent to discuss these sectoral and capitalization changes in the context of future performance expectations.

Print PDF > Russell Rebalance: What Happened?

¹ FTSE Russell

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Sustainable Investing in a Post-COVID World

Defined as an unpredictable occurrence that is beyond the scope of normal expectations, a black swan event is rare and has potentially severe consequences. Even as COVID-19 spread across the globe in late March, the level of disruption ultimately caused by the virus came as a surprise to most. The global pandemic that followed suit was certainly a black swan event with some economists dubbing it the first sustainability crisis of the 21st century.

From a market perspective, stocks experienced the sharpest sell-off in history; while no sector was left unscathed, some relative winners and losers were identified. Of note was the outperformance of sustainable investing strategies compared to their non-sustainable counterparts. The purpose of this newsletter is to dive deeper into the performance of sustainable investing strategies during the past several months and attempt to provide insight into what investors, investment managers, and companies will be seeking from a sustainability perspective in a post-COVID world.

Read > Sustainable Investing in a Post-COVID World

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Private Equity in Times of Crisis

While there is still much uncertainty around the long-term economic ramifications of COVID-19, financial markets have been undergoing frequent massive swings as both investment managers and allocators evaluate the situation and what it might mean for their current and future investments. Given the illiquid and slow-moving nature of private equity investments, an outstanding question is: What will this mean for private market investors?

One principle which people took serious note of in the last crisis was something called the “denominator effect.” A decline in the value of one asset should result in other assets being sold to properly rebalance a portfolio, but many assets like venture capital (“VC”), private equity (“PE”), and others can be quite hard to sell in the short-to-medium term, leaving LPs overallocated to private markets. When the stock market falls dramatically, public market investments fall in value immediately; however, private market investments do not reflect the changing environment right away because they require a manual valuation process that is one to two quarters behind public markets.

In addition, LPs allocating to PE and VC can expect net cash flows to turn negative, a break from the norm of recent years when distributions outpaced contributions, which led to positive net cash flows. During a time of crisis, GPs dislike realizing investments at diminished valuations. Instead, they tend to further invest into existing portfolio companies, or at least hold those companies longer, which leads to reduced distributions. Furthermore, GPs also tend to call down capital more slowly during times of market crisis because deal-making slows substantially. It is forecasted that it will take months, possibly even until the end of the year for transaction volumes to rebound.

The exact repercussions the crisis will have on PE fund performance will remain unknown until we know how deeply the virus will affect global economies. However, we do believe private markets will fare well in the current market environment. Research indicates that while PE exhibits high correlation with public market performance over longer periods of time, in times of volatility it tends to drop less and subsequently outperform. Funds deploying cash through the crisis are in a favorable position to deliver elevated returns given the higher likelihood of finding a bargain in a crisis. Previous crisis funds, such as 2001 or 2009 vintages, posted top-tier metrics; the hope is that this pandemic is consistent with these previous patterns for private equity returns.

Print PDF > Private Equity in Times of Crisis

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

The Stock Market vs. Trump

Though it has so far taken somewhat of a backseat to the COVID-19 pandemic and global protests for racial justice, 2020 is a U.S. presidential election year. As can be seen in the chart, over the last year and the last several months in particular, the S&P 500 has generally moved in line with expectations for Trump’s reelection this November.¹ As the complicated debate over whether the stock market performs better under a Republican or Democratic president continues, the historical numbers show that the market does notably better in an election year when a Republican wins the seat. While there are always many moving pieces, this makes sense, as Republicans are often considered more pro-business and pro-market than Democrats.

Now into June, that correlation has completely reversed. The S&P 500 has continued its recovery, getting back to flat on the year before last Thursday’s correction, while chances of a 2020 Republican victory have hit new lows. Though based on only two weeks of data — and with another almost five months until the election — it is an interesting departure from historical trends. Voters certainly have a lot to grapple with over the next several months and we will continue to follow all developments closely as history is made.

Print PDF > The Stock Market vs. Trump

¹As measured by data from political betting site PredictIt: “Which party will win the 2020 U.S. presidential election?”

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

The Impact of COVID-19 on Not-for-Profit Healthcare Systems

The onset of the global pandemic caused by COVID-19 has created substantial stress in the financial markets and the broader economy. Unlike the Global Financial Crisis (“GFC”), the current pandemic is a health care crisis that has had a much more direct and swift effect on all of our hospital clients’ operations and financial positions. The following newsletter represents Marquette’s key observations regarding the current operating environment for the not-for-profit (“NFP”) hospital sector, as well as an outlook for the remainder of 2020.

Read > The Impact of COVID-19 on Not-for-Profit Healthcare Systems

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Is the Worst Behind Us?

The 10-year Treasury yield broke through a key threshold yesterday closing at 0.77%, its highest in eight weeks, and ending at the same 0.77% that it closed at on April 8th. As shown in this week’s chart, the yield curve has been steepening substantially since March 9th, when the 10-year closed at its all-time low of 0.54%. This steepening may be a sign from the bond markets that the worst might be behind us.

On the economic front, Automatic Data Processing released data yesterday that showed the private sector lost only 2.76 million jobs in May, far below the 8.75 million forecasted by economists, and also far below the 19.56 million private sector jobs that were lost in April. This welcome news was amplified by National Institute for Allergy and Infectious Diseases Director Dr. Anthony Fauci’s remark that Moderna’s COVID-19 vaccine candidate is likely on-track to start Phase III human trials in July. Additionally, he noted that the plan is to begin manufacturing doses of the vaccine in tandem with the trials so that potentially 100 million doses are available to be shipped by November or December. Collectively, these favorable developments sent the S&P 500 up 1.36% and the 10-year Treasury yield from 0.68% to 0.77% yesterday, steepening the yield curve. As such, the fixed income and equity markets are finally exhibiting normal correlations, as a steepening curve with a rallying stock market signifies investors selling down long-dated Treasury bonds to buy stocks. This is in contrast with the March cash dash that sent rates down while the curve steepened all the while the stock markets fell as investors sold off both stocks and bonds to raise cash.

Also shown in our chart are the projected Treasury yield curves for the end of this year and the next two years based on the Treasury forwards market. They show the yield curve continuing to rise and steepen, with the 10-year forecasted to rise to 0.85% at the end of this year, 1.02% at the end of next year, and 1.18% at the end of 2022. While Treasury forwards will continue to fluctuate and the 10-year cannot be expected to reach these projected yields exactly, the expected steepening shows that the bond markets are expressing some level of optimism for the future given these recent positive developments. Ultimately, we see these developments as a positive sign that the economy, markets, and pandemic are progressing towards recovery.

Print PDF > Is the Worst Behind Us?

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Bank Loans vs. High Yield: Is One Safer Than the Other?

Year-to-date, bank loans and high yield bonds have been subject to a variety of market forces similar between the two sectors, but others have impacted each uniquely. While we typically recommend that clients allocate to both sub-investment grade credit asset classes on an equal-weighted basis in order to benefit from each of their strengths as well as the diversification, it is very sound and well-grounded for investors to ask — especially in light of this unprecedented crisis in which we find ourselves — what the unique advantages and disadvantages are from each. Certain investor situations may necessitate maintaining an overweight to one or the other or holding only one.

In this newsletter, we perform a deep dive into the nuances of the performance, technical factors, fundamentals, and valuations between bank loans and high yield in order to make these distinctions. In summary, we determine the merits of a modest overweight of high yield versus bank loans given the current environment due especially to two dynamics — the Fed’s unprecedented purchasing of high yield bonds and weakened bank loan demand as a direct result of weak CLO demand — explored in more detail in the following pages.

Read > Bank Loans vs. High Yield: Is One Safer Than the Other?

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Don’t Mind the Gap

On the surface it looks disjointed. We are in the midst of what is likely the worst recession since the Great Depression, but the stock market has rallied back in a matter of weeks and currently sits just 10% off all-time highs. Treasury yields appear to be pricing in an extended period of softness, and high yield spreads have only started to show signs of recovery. While the future is always an unknown, it feels as if we are facing a new level of uncertainty with many more moving parts.

In this newsletter, we explore equity market dynamics to help reconcile the apparent gap between the recent good news from equity markets and overwhelmingly negative news from the economy and bond markets.

Read > Don’t Mind the Gap

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.