LP Radar A contrarian view

For limited partners, making a successful contrarian bet in private equity is about as easy as finding the Holy Grail. Generating outsized returns using a truly differentiated investment thesis may be every investor’s goal; but in practice, breaking away from the herd mentality is easier said than done.

To a certain extent, investing in emer-ging markets always requires a degree of contrarian thinking, if only because making predictions in this segment is notoriously difficult – due to everything from currency volatility to political risk.

At the Emerging Markets Private Equity Association’s Global Private Equity Confe-rence in Washington DC in May, a number of LPs spoke about the ways in which they view emerging markets differently from their peers. For instance, at least one LP challenged the idea of earmarking a specific percentage to emerging market managers.

“We’ve never had a set allocation,” said Alona Ponomareva, principal portfolio manager for The World Bank’s pensions and endowments department. “I actually am not a big fan of a set allocation. We’re looking from the bottom up. We’re not looking to put in 10 percent or 20 percent. We’re looking to find good managers in emerging markets and once we find them we commit to them.”

The most recent private equity perfor-mance data from Cambridge Associates shows that overall, US private equity returns have outperformed emerging markets over one-year, three-year, five-year and 10-year periods. But Ponomareva said that various regions in the World Bank’s emerging markets portfolio have actually outperformed the US.

“It’s the regional funds in Asia,” she said. “We have also done fairly well in Africa.”

Africa has been a particularly hot topic within emerging markets for GPs and LPs lately, in part due to the growing number of managers focusing on the continent.

“I would describe our current review pipeline [in Africa] in terms of number of funds to be the largest it’s ever been,” said panellist Mike Koenig, a managing director at Hamilton Lane. “That tells us that there is a peaking interest in it. The question we always ask ourselves is: when there’s a particular emphasis around a particular region or strategy, what are the drivers for it? Is this a place we can lock up capital for 10 to 12 years?”

Indeed, despite widespread enthusiasm from investors for private equity in Africa, some prominent voices in the industry have expressed a healthy level of scepticism for investing in the most popular regions.

At this year’s Milken Global Conference in Los Angeles, TPG co-founder David Bonderman was quick to point out that he wouldn’t advocate a specific country or set of countries as having a strong national investment story. “We’re investing in companies, not countries,” Bonderman said. “If you talk to LPs now, everyone wants to be in Africa, which probably means it’s a bad place to invest.”

At The World Bank, however, Ponomareva could hardly be more bullish on the continent.

“We actually want to be closer to the ground and invest with the firms that only invest in Africa,” she said. “If you look at it from the macro and the micro [perspective], I think it’s going to be a fantastic market for many, many decades.”

Another panelist, Rashad Kaldany, exe-cutive vice-president of emerging markets at The Caisse de Dépôt et Placement du Québec, expressed his view that compa-ring specific emerging markets to others in terms of performance is something of a fool’s errand.

“I can’t say it’s clear which region has outperformed another,” he said, adding that for the next 18 to 24 months, The Caisse would be focusing on markets in Latin America and Southeast Asia.
Meanwhile, Hamilton Lane’s Koenig insisted that he prefers benchmarking emerging market performance against public markets rather than developed economies. “It is hard to make the comparison directly to developed markets,” he insisted.

On the topic of co-investments – something for which almost all LPs have developed a greater appetite in recent years – Ponomareva again expressed a contrarian view.

“At this point we’re not quite there yet,” she said. “It’s obviously a growing trend and it’s not going to change, but you have to be ready for it. You have to make decisions at the institutional level that you’re going to do this. You have to have a team … While we have been talking about this internally, we have not gotten to the point where the institution has decided this is where we’re going.”

If there’s one thing all of these LPs share, it’s a contrarian take on widely-established views on how to approach emerging markets. And if some of their returns are anything to go by, it creates an interesting contradiction: while it’s true that the point of convening at conferences such as this is to gain insights on the current investor consensus, for LPs, the best way to tackle emerging markets may actually be to ignore the conventional wisdom.