PSP Investments: The end of free money is good news for PE

Private equity investors are set to benefit from a re-pricing of unprofitable businesses in an era of high interest rates, according to the pension manager’s global head of PE.

PSP Investments, the pension manager of Canada’s Public Sector Pension Investment Board, is optimistic that the end of ultra-low interest rates will be positive for the industry.

“We are not going back to an era of free money and that’s probably good news for the industry… because that’s bringing discipline,” said Simon Marc, global head of private equity and strategic partnership at the London School of Economics Alternative Investments Conference, on Monday.

He added that this change means that industry participants will need to think much harder about capital allocation. “What we have seen as investors is that a lot of sectors have re-priced tech… and a lot of unprofitable businesses that did not have much of a prospect to become profitable have become worthless. That’s a good thing for the market. The market should be disciplined, and a zero-interest-rate environment is not one that drives any discipline.”

Marc noted that the C$230.5 billion ($172.3 billion; €158.6 billion) pension manager is “very bullish on private equity”, adding that the asset class is in “better shape than it has ever been” with over $1 trillion in dry powder.

“This is an industry which still has a lot of growth to come. It will probably triple in the next decade,” he said.

PSP Investments had C$35 billion in private equity assets as of end-March 2022, or about 15.3 percent of total AUM at that time, according to its annual report for 2022. Its PE portfolio delivered a return of 27.6 percent over one year, against a 19.5 percent benchmark. The pension manager has since 2015 expanded its private equity team and strategy by boosting in-house talent and organising capabilities around high-growth sectors. Healthcare and tech investments make about 17 percent apiece of PSP’s PE portfolio, followed by consumer discretionary, industrials and communications. It has backed funds managed by Brookfield Asset Management, TPG and Searchlight Capital Partners, PEI data shows.

Charlotte Muellers, PSP Investments’ co-head of North America credit investments, also noted on the panel that the market environment presents a “once-in-a-lifetime opportunity” to invest in private credit.

“What we’ve seen is that volatility is an opportunity. What we’ve seen is the banks, all the commitments they’ve put in the first half of 2022, we’ve had to fund in the second half of 2022 – that’s translated to about $35 billion of hung commitments,” said Muellers.

“With banks being risk-off… and the syndicated market shut down… it’s created a real opportunity for private credit and lenders such as ourselves.”

What this means for investors like PSP is that they get to be picky, work only with sponsors they know and trust, as well as back stable and sustainable business models, she added.

“We’re seeing double the returns – because of all interest rate hikes you discussed come into our benefit,” Muellers said. “We’re seeing leverage come in and we’re seeing more robust lender protections.”

Credit investments made up 9.5 percent or C$21.9 billion of the investor’s total assets as of end-March last year.