HPEQ exec issues cautionary tale for listed sector

Smaller vehicles face an uphill struggle in whipping up investor interest, according to Ian Barrass, portfolio manager of HPEQ, a listed European private equity trust in wind down-mode.

Henderson Private Equity Investment Trust (HPEQ) last week revealed plans to shut down, after it was unable to satisfactorily turn around low trading volumes and large discounts to net asset value (NAV).

Describing the trust as “subscale and illiquid”, parent Henderson Global Investors said that HPEQ would be orderly wound down within approximately two years.

Barrass: Smaller listed
vehicles face Catch 22

Despite a share price improvement of 33 percent since May 2009, HPEQ had been consistently trading at a 50 percent to 60 percent discount to NAV.  While much of the listed private equity investment trust (PEIT) sector has been battling low trading volumes and steep discounts to NAV in recent years, HPEQ’s relatively small £25 million market capitalisation was part of its inability to attract investor interest and narrow the gap, according to portfolio manager Ian Barrass.

“The investors who really move the share price want to be able to buy a million, two million shares and to be able to get in and out,” he said, adding that at the moment, many listed private equity vehicles such as HPEQ simply do not provide these market movers with that option.

“If you’re an investor, whether institutional or retail, and you’re looking at what’s available in the sector,” said Barrass, “why would you choose Henderson’s PEIT ahead of, say a Graphite, or a Dunedin or a Standard Life European Private Equity, which are bigger and better diversified?”

Normally structured as evergreen private equity funds making direct investments, or as funds of funds, PEITs such as HPEQ provide access to the private equity asset class for retail and other investors that may not have the capacity or appetite to make big ticket commitments to 10-year funds.

Despite the recent turbulence of the financial crisis, during which the listed sector took a “pummelling” according to one commentator, PEITs have, over the previous 15 years, outperformed both the FTSE All Share Index and the MCSI World Index by 120 percent and 178.8 percent respectively, according to financial data provider Morningstar.

There's no reason why such a [share price to NAV] discount should exist

Ian Armitage

However, for the sector as a whole, share prices have been historically low relative to valuations. At their worst, PEITs traded on average at a near 70 percent discount during 2009. While that discount has now narrowed to around 30 percent, this occurs within a sector where shares have, on average, only traded at a premium for a combined total of 18 months during the last 10 years.

“The way to get rid of the gap is to increase the trust’s size,” said Barrass. “And you can’t increase its size unless the discount gets narrower, but it’s extremely difficult to raise new money when you’ve got a discount of 50 – and up to 60 – percent at times. So it’s a sort of trap that you find yourself in.”

Such Catch 22-like traps will put other smaller vehicles at risk, warned Barrass. While he would be surprised if a similar situation were to occur to a larger PEIT like those he mentioned previously, there are “some listed vehicles on European exchanges that are quite small and probably gazing at their own navels at the moment”.

Joe Malick, managing director at Lehman Brothers spin-out and listed evergreen private equity investor NB Private Equity, called the valuation gap the sector’s “$64,000 question”, noting that some listed private equity shares may not trade for days and when they do, the volumes are so small as to be inconsequential. 

Ian Armitage, chairman at private equity firm Hg Capital, which manages the Hg Capital Trust PEIT, said that greater transparency in the sector could ultimately boost valuations. 

“We need to explain how returns are produced,” he said. Over time, as each listed vehicle educates the market and is more transparent with its numbers, Armitage said, “people will follow the sector and will realise there’s no reason why such a discount should exist”. 

Malick agreed that time will bridge the gap. “If the NAVs continue to go up and up and up,” he said, “the market will, at some point, recognise the value there.”