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Strategic Asset Allocation: Rethinking the Role of Private Markets
Strategic Asset Allocation: Rethinking the Role of Private Markets
September 25, 2018

Since at least the late 1990s, institutional investors have been allocating more capital to private markets. For some, the low interest rates that have come to characterize markets following the GFC served as the catalyst; others believed that returns from equities would moderate along with global GDP growth.

Before the surge in popularity of private markets, the core-satellite approach to portfolio construction was appropriate. Composed primarily of low-cost investments, the core related to an institution’s strategic asset allocation. Private markets, however, were regarded purely as alpha-generating satellites—strategies that were still too exotic to be anything more than tactical deployments.

Our approach to deriving an SAA for private markets is not a plug-and-chug operation. Rather, we describe a series of intuitive steps that we hope make the process less intimidating and more transparent. At every step, portfolio management teams need to choose certain inputs and models, and to master success factors.

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Cracking the Illiquidity Code: Long-Term Partnerships, Short-Term Cash Flows
Cracking the Illiquidity Code: Long-Term Partnerships, Short-Term Cash Flows
September 6, 2018

Once private equity investors sign a fund commitment, they begin a 10-15-year relationship with the GP. With time horizons this long, it’s no wonder that the asset class attracts life insurers and pension funds; it’s also clear why many perceive private equity to be a waiting game. That shorter-term investors also invest in private equity, however, indicates the asset class is not as illiquid as the long fund life would suggest. To quantify the liquidity of these investments, we look at the duration of private equity cash flows and crunch the numbers from different angles using our proprietary data.

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Achieving Liquidity in Private Markets for DC Pensions
Achieving Liquidity in Private Markets for DC Pensions
July 18, 2018

Some of the features that enable private markets to generate outsized returns are incompatible with how defined contribution (DC) pensions operate: for institutions that function in a daily pricing environment, it can be difficult to invest in asset classes that only provide episodic liquidity. However, as private markets have evolved, new investment structures have emerged which have the potential to resolve this dilemma.

 

We explore replication strategies and other early attempts by private markets to solve the issues of liquidity and daily pricing. We also dig into the mechanics of auction funds and other more recent constructs.

 

While neither auctions funds nor listed holding companies perfectly resolve the liquidity and pricing challenges facing plan sponsors—we believe both are legitimate options, capable of achieving liquidity in private market investments.

 

To learn more about our research on private markets, feel free to contact any one of use here at StepStone.

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A Guide to Private Markets for Insurers
A Guide to Private Markets for Insurers
May 15, 2018

Until somewhat recently, insurance companies benefited from yield compression, which allowed them to invest conservatively and still remain competitive. But now that returns from fixed-income investments are at an all-time low, insurers are looking beyond traditional investments to boost returns and meet their long-term liabilities.

 

To illustrate the benefits that insurers stand to reap by investing in private markets, we turn to a case study, which shows how even a modest allocation toward alternative investments has the potential to increase returns, keep volatility in check, reduce expected shortfalls, and shorten duration.

 

StepStone believes the regulatory and accounting constraints facing insurance companies are not as restrictive as they may have been. To learn more about our research on private markets, feel free to contact any of us at StepStone.

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Chinese Politics in the Age of Xi
Chinese Politics in the Age of Xi
April 5, 2018

Politics in the People’s Republic of China is at a point of transition: the country’s bicameral legislature convened last month for its annual session to rubber-stamp a series of new laws and constitutional amendments, which are expected to have important ramifications for political and economic governance in the world’s second largest economy.

 

One change in the constitution that has attracted much debate is the lifting of term limits on the presidency. Xi Jinping, whose second five-year term began in March, has now been given the option to serve a third, from 2023 to 2028. Should investors welcome or fear this prospect? What are the implications for China’s economy and private markets? We explore these topics and more in Chinese Politics in the Age of Xi. 

 

Stepstone believes the short- and medium-term outlook for private market investors is weighted to the upside, while potential downside risks in the long term are visible but also avoidable. To learn more about our research on private markets in Asia, please contact any of us at StepStone.

 

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Retail Real Estate: Clean Up in Aisle Six, or Heading to Chapter-7?
Retail Real Estate: Clean Up in Aisle Six, or Heading to Chapter-7?
February 23, 2018

Most headlines would have you believe that the rise of online shopping portends imminent doom for brick and mortar. We view these notions as overstated: traditional retail accounts for 90% of all sales in the US, and even as e-commerce continues along its growth trajectory over the next decade, brick and mortar is still likely to account for two-thirds of consumer purchases.

 

  • The rise of e-commerce gave traditional retail the jolt it needed to move toward omni-channel. As long as both sectors are headed in that direction, brick and mortar has an advantage: it controls the centrally-located real estate that online merchants crave.
  • Not all brick and mortar shops will survive. Half of all malls in the US could close in the next ten years. But the real estate they occupy will remain valuable as they are razed and replaced by multifamily homes, hospitals, or e-tail distribution centers.
  • Even after e-commerce’s opening salvo, the fundamentals for investing in retail real estate are still in place: cap rates and supply are low, the vacancy rate has held steady, and rents have gone up for 23 straight quarters.

 

We hope you find this report informative. If you would like to learn more about our research on real estate, please contact any of us at StepStone.

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The US Energy Sector: Out of Aces
The US Energy Sector: Out of Aces
October 19, 2017

The US Energy Sector: Out of Aces makes the case that anyone looking to invest in North America’s oil and gas sector should be cautious. No longer a play on rising commodity prices, the companies that survived the collapse of 2014 are leaner and use leverage more conservatively. Discipline is the new rule.

 

  • The nimble producers that define North America’s production capabilities are setting the world’s marginal supply curve; their ability to adjust production to match prevailing prices may create a series of mini-cycles that we believe will prevent prices from rising significantly.
  • Companies that underwrote futures contracts when a barrel of oil was worth US$100 continue to face liquidity problems as their hedges roll off; more than 200 companies filed for bankruptcy between January 2015 and the first quarter of this year.
  • Although the worst of the bankruptcy wave may be behind us, it will take a few years to resolve the remaining distress.
  • To stay competitive, upstream companies are cutting costs and building rigs only where reserves are proven, infrastructure is established, and there are plenty of service companies downstream.

 

Until commodity prices increase, we believe investors should navigate the market carefully to capitalize on the few pockets of opportunity that exist. If you would like to learn more about our research on energy private equity or to inquire about investment opportunities, please contact any of us at StepStone.

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Blending the Real Estate Allocation
Blending the Real Estate Allocation
October 3, 2017

Blending the Real Estate Allocation explores the risk, returns and statistical challenges associated with the different investment formats through which commercial real estate can be accessed. Long viewed as a binary allocation decision, relatively little research has been conducted on the performance and risks of building portfolios composed of listed and private real estate. This paper attempts to fill that void.

 

  • We simulated the historical performance of blended real estate portfolios made up of fixed capital allocations to listed equity/debt and private equity/debt, and created five hypothetical portfolios, each with a varying level of exposure to commercial real estate.
  • At a 10% allocation, commercial real estate was shown to be accretive to an overall portfolio; performance at higher allocation levels is less conclusive.
  • Like other alternative investments, real estate can present statistical challenges that investors ought to be prepared for. We advise against focusing extensively on mean-variance optimization—any allocation framework should address statistical considerations such as negative skewness in the return distributions.
  • Finally, our results show that private debt (i.e., senior loans) can enhance risk-adjusted returns.

 

This paper is the first in a series on strategic asset allocation. You can expect subsequent issues over the next few quarters. If you would like to learn more our research or inquire about investment opportunities, please contact any of us at StepStone.

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Healthcare & Life Sciences: The Evolution of China’s Next Big Market
Healthcare & Life Sciences: The Evolution of China’s Next Big Market
August 10, 2017

Healthcare & Life Sciences: The Evolution of China’s Next Big Market, evaluates the demographic and political tailwinds that have converged with the region’s vibrant technology sector to create an expanding set of investment opportunities that are as compelling as they are diverse.

 

  • China is projected to age faster than any country ever; its elderly population will double in just 20 years. More importantly, China’s baby boomers have the resources to afford and command better healthcare.
  • Regulatory reforms are encouraging Chinese pharmaceutical firms to increase their R&D budgets, attracting top global talent and reversing years of brain drain. By 2020, China is projected to be the world’s largest R&D spender.
  • Like the tech boom, private equity and venture capital should have a big role to play in the healthcare market’s development; the number of local healthcare specialists we track has grown five-fold since 2010.
  • The data garnered in SPI™, our proprietary data platform, suggest that with the right strategy, savvy investors may be rewarded handsomely—investments in Chinese healthcare companies performed better than investments in all other sectors, delivering a higher MOIC and gross IRR and half the loss ratio.

 

The insights offered in this report are the result of recent investments we’ve made in Chinese healthcare funds. We hope you find them informative. If you would like to learn more about our research or current investment opportunities, please contact any of us at StepStone.

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The ID Register: A More Efficient Universal Onboarding Platform
The ID Register: A More Efficient Universal Onboarding Platform
July 13, 2017

The ID Register: A More Efficient Universal Onboarding Platform examines several initiatives that private markets have taken to reduce the cost and complexity inherent to the investor onboarding process. Standardization in financial services has been more successful when wide-spread adoption leads to greater efficiency and does not concentrate costs to any one group. More than diffusing costs, the ID Register is a powerful tool that benefits GPs and LPs alike.

 

  • LPs spend less time performing tedious tasks by creating one profile that contains enough information to comply with anti-money laundering and know-your-client regulations in several jurisdictions, and can be shared with each fund to which the LP subscribes.
  • GPs enjoy a simpler sale process and can close each subscription faster.

 

We encourage you to explore the platform and diligence materials for GPs, LPs and service providers at www.theidregister.com. If you would like to learn more about our research on fund subscriptions, please contact any of us at StepStone.

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Overall Solutions for Private Debt Investments
Overall Solutions for Private Debt Investments
May 18, 2017

Overall Solutions for Private Debt Investments provides an overview of the current private debt landscape and describes StepStone Private Debt’s approach to investing in this nascent, yet pervasive asset class.

 

  • In recent years, a tense interest rate environment has led many institutional investors to invest more of their assets in private debt.
  • While attractive returns have made first lien syndicated corporate loans particularly popular, investors are increasingly exploring other categories within private debt.

 

StepStone Private Debt offers a full range of solutions in private debt to institutional investors building customized portfolios. If you would like to learn more about our research on private debt or current investment opportunities, please feel free to contact any of us at StepStone.

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A Comprehensive Guide To Private Equity Investing
A Comprehensive Guide To Private Equity Investing
May 7, 2017

A Comprehensive Guide to Private Equity Investing is a primer on this varied and complex asset class—providing details on the risks, advantages and terms that investors ought to be familiar with.

 

  • Each of the four strategies that comprise private equity has its own nuances; choosing the right GP with the proper expertise is critical.
  • That private equity has historically outperformed public markets may help to explain why institutional investors are projected to make the asset class a more prominent part of their portfolios.

 

We hope you find this paper informative. If you would like to learn more about our research on private equity or current investment opportunities, please feel free to contact any of us at StepStone.

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