Looking forward: North America in 2018

As the economic cycle approaches its peak, it can be challenging to predict what will happen in 2018, but one thing is almost certain: more money will flow into private equity.

Private equity saw several records broken last year, with the largest fund ever raised, the most money raised and highest valuation multiples in a decade.

Add to that a stock market bull run that is still going strong more than eight years after its start, it’s no wonder some may start to get nervous about the direction of the economy and the private equity market.

However, at least until signs of a slowdown appear, funds will continue to be furnished with capital and limited partners will still be eager to send more money to the asset class.

“The business is definitely cyclical and it’s been a pretty good run for private equity,” said Brian Conway, chairman and a managing partner at TA Associates, which focuses on growth investing. “There’s more political uncertainty than we’ve had in a long time, but who knows when it will end. If you call the end of the cycle, you’re probably wrong by two or three years.”

He anticipates that the private equity landscape in 2018 will look similar to activity in 2017 unless there’s a major geo-political shock such as war breaking out between the United States and North Korea or a major terrorist event.

“The easy thing to predict is that everything is going to crack, rates are going to go up and the equity market is going to start to contract and eventually it will happen, but you can’t predict it will happen in 2018.”

GPs are conscious that a downturn is coming and have been running more downside cases and stress testing of portfolio companies.

The need for more caution may be wise, but it comes as LPs are still struggling to stay on target for their allocation to private equity and generally want greater exposure to the asset class.

“People talked a lot about the denominator effect when the market plummeted during the global financial crisis but in a year when public equity markets went up so much, it’s still very powerful,” said Stewart Kohl, co-chief executive of Riverside Company. “This is driving the need for more private equity exposure.”

The embrace of private markets in general by LPs is nothing new but it was in full display in 2017. With high distributions in private equity added to growth in stocks and the projection that returns in public markets will go down in the next decade or so, 2018 will likely see even more money flowing into private equity.

“I think there’s an evolving change in perception of the private markets as being a permanent part of the capital market landscape and an alternative to companies seeking access to public market capital,” said Greg Stento, a managing director at HarbourVest.

“For some investors, their allocation to private markets is higher than public markets. It very well may be that we’re going to see other investors beginning to rethink their asset allocation around the permanency of private markets. We’re still in the early innings of investors repositioning their equity allocations and maybe 2018 will be a year where investors move further along that path.”