Rising Impact of PE Firms on US Capital Markets

As per an EY report, the rapid rise of private equity in the US since the 19th century has proved to be pathbreaking for the country’s capital markets.

It is just too big to not take notice of, both for investors, as well as regulators. 

In the words of Peter Witte (Associate Director – Ernst & Young’s PE Group), if one is not inclined towards PE in the US, then he is missing out on the path, our economy is walking on.

Another EY report stated that Private Equity firms are currently handling $3.4 trillion of investments globally, much higher than $500 billion in 2000. Conforming to the Preqin data (financial data & information company), it can be concluded that private capital assets have now soared to $6 trillion, comprising real estate, infrastructure, natural resources, and private debt.  

Role of Regulators in the US in PE Investment

The current economic situation in the US entails that private equity firms possess ample capital – said Witte. He added – as an influx of capital hits private equity, an obvious need for regulatory strictness will emerge.

  • Regulators in the Private Equity industry hold the authority to open private equity to general investors.
  • US Securities & Exchange Commission is seeking ways to grant ordinary investors entry into private markets.
  • At present, institutional investors like endowments and pensions enjoy the rights to invest in PE funds, ordinary investors are still to be permitted the same.

Why PE Industry’s Significance is Surging in the U.S.?

In the current economic situation where bonds are paying the minimal ROI, besides some yielding negatively, a majority of the big U.S. investors are seemingly obsessed about securing higher returns, that only Private Equity Professionals are being able to manage for them.  

PE managers have long been exploiting the private equity market to its full potential in the US.

PE Professionals Lifting Underperforming Companies Making Them Stand Back on Their Feet

In many cases, PE managers have been able to nurture companies standing on the cusp of closure, or shutdown, and make them regain their grounds. Further, they helped these firms to push on the path of growth, thus generating ROI for investors.

Numerous Ways Private Equity is Changing the Landscape of Economy & Finance in the U.S.

  • The Core of PE Lies in Leveraging Buyouts: The basic logic behind every acquisition made by a PE firm is to buy a company down under, invest a little into it, and make it attractive enough to sell at a considerably higher price than what it was bought for.
  • Investments Made Through PE Take a Completely Different Route: acquisitions are mostly financed utilizing debts that ultimately end up being shouldered by the “bought” company. It denotes that the PE company and its investors are free to put in small amounts of cash, and in return, can enjoy high gains if they succeed in making a profit in sales.
  • PE Companies Re-Engineer Business Management: In the past few years, companies have followed the strategy wherein they have refrained from unrequired and illogical cost-cutting by laying off personnel. Now, PE firms stick by Mckinsey-inspired operational reorganization and consulting, planning to leave companies in a better financial state than what it was at the time of buying.
  • Fees Charged by PE Organizations is Huge:  On top of the conventional “2 and 20 model”, i.e. 2% as the management fee and 20% performance fee, private equity firms levy varied hidden fees which is eventually carried out of the investors’ pocket. Such fee comes in the name of “monitoring fee”, a fee covering expenses of PE company’s delegate, and the charges incurred on hiring chartered planes for visits to investments.

The ROI in PE is Big, However Investors Should be Careful

In the words of billionaire investor Warren Buffett – “We have witnessed numerous proposals made by PE funds where the ROIs were not determined in a manner I would consider as “honest”. Here is the logic behind his quoted statements:

  • The actual value of PE investments is difficult to determine, as private firm’s shares are not constantly bought or sold, and therefore, one cannot confirm their prices by simply searching in a stock ticker.
  • Reservations among investors on trading in a private company sometimes mask a fund’s volatility, putting forth the deception of smoother returns over time.

The Probability of Beating the Stock Market Has Gone Down in the Last Two Decades

As PE jobs continue to grow in the US financial markets with a rapid increase in the number of digital start-ups in the last 20 years, the chances of PE managers picking up on a PE fund and beating the stock market has gone down considerably.

However, there still exists a large pool of talented Private Equity Managers that can still make the investors’ money grow manifold in a few years.

Concluding Thoughts

The future seems bright for fresh college graduates in the US seeking a career in finance if PE continues to grow at the pace it is growing in the country.

However, the current economic environment in the US demands of regulators to be taking measures to enforce prudence and reporting standards. The US Securities & Exchange Commission attempted to put a cap on leveraging PE deals, but later, took its steps back with Donald Trump being chosen as the President, who has had friends in the US financial markets.