Two PE strategies have helped generate returns for 13 consecutive years
By Joel Kranc
Up until the beginning of the pandemic and the rise of inflation around the world, low interest rate environments were the norm for many years, spurred by the financial meltdown of 2007. Interest rates were kept low to aid stimulus and allow businesses and individuals to borrow at historically cheap levels.
For large institutional investors this meant seeking high returns in alternative asset classes with long-term growth potential. During the height of the pandemic a great deal of capital was left on the sidelines but has since re-emerged into markets, especially into private equity. The Pitchbook 2021 Annual US PE Breakdown says that private equity deal making in 2021 grew to US$1.2 trillion or 8,624 deals, which was more than 50% above the previous annual record for deal value.
Canadian Plans Lead in PE Investing
In Canada, the largest public pension funds are more heavily invested in private equity than other global public pension plans according to the Official Monetary and Financial Institutions Forum out of Britain. And recent headlines don’t lie, with plans such as the Ontario Teachers’ investment returns growing by 11.1% and OPTrust posting a 15.3% net return or 52.2% overall return, both driven by investments in the private equity sector.
Sandra Bosela
“In the sustained low interest rate environment we have been operating in, the returns we can generate from private equity are important to maintaining our fully funded status so we can provide pension security to our over 100,000 members,” notes Sandra Bosela, MD and Global head of Private Equity with OPTrust in Toronto.
With CDN$25 billion in total assets, OPTrust, which manages and administers the OPSEU Pension Plan, employs two strategies to achieve long-term results within its CDN$4 billion private equity portfolio – a traditional buyout strategy and a lower-risk strategy.
“We target the majority of the portfolio to be growth-oriented investments, under our buyout strategy,” adds Bosela. “Our lower-risk private equity strategy affords us the flexibility to pursue deals that are more structured in nature and offer more downside protection. It also allows us to pursue investments in businesses or industries that can generate stable cash flow streams but might not have meaningful growth opportunities.”
The strategies combined give the pension plan the ability to pursue investment opportunities that deliver risk-adjusted returns while at the same time creating a diversified portfolio with downside protection.
Areas of Diversification
In terms of areas of diversification, the Pitchbook 2021 Annual US PE Breakdown notes that healthcare PE investment “continued to both expand and become more sophisticated as firms look to position themselves on the right side of change.” In 2011, the US saw about 238 healthcare private equity deals, which included biotech, IT, healthcare services, and healthcare devices, supplies and business services. Ten years later that deal activity grew to 733 deals. The value of those deals grew from US$24.8 billion in 2011 to US$77.5 billion in 2021.
A similar trend is occurring in the software and the IT sectors where 202 deals amounting to US$23.7 billion in 2011 have grown to 947 deals valued at US$167.1. A lot of that, according to the report, is thanks to robust earnings and performance by enterprise software providers. There also happens to be an abundance of companies in the software market providing private equity buyout opportunities.
The trends are not lost on OPTrust. “We have generally avoided cyclical industries and don’t have much exposure to commodities, construction, retail, and entertainment,” explains Bosela. “We like healthcare and healthcare services, business services, financial services and solutions, infrastructure services, as well as software and other IT solutions. We will continue to look for defensive business models with compelling growth opportunities and will aim to keep our portfolio largely balanced between fund commitments and direct/co-investments (running at 47% funds, 53% directs/co-investments at year end) going forward.”
OPTrust often takes a partnership approach to investing, and has flexible investment horizons to match their fund partners’ or management teams’ goals and objectives.
Adds Bosela: ‘We focus on active management where possible, which allows us to have more control over our investments and a voice at the table in shaping strategic plans and other value creation initiatives.”
Economic and Global Geopolitical Climate
Going forward, OPTrust, like most large institutional investors, is facing challenges due to the current economic and global geopolitical climate. Bosela says the firm spends a lot of time running scenario analysis to understand the range of outcomes in various operating environments, assuming some level of contraction. Also, higher inflation and interest rates, as well as labour shortages are considered prior to selecting an investment. However, private equity continues to be a strong part of the portfolio having generated returns over longer horizons, with a 5-year return of 25% and a 10-year return of 20%.
Joel Kranc is an award-winning editor, writer and communications professional based in Toronto. Joel has over 20 years of experience as a journalist and reporter covering the retirement and institutional investment market. He has also worked in a variety of communications capacities including communications manager for one of the world’s largest pension and investment funds. Joel is author of the book Retirement Planning in 8 Easy Steps: The Brief Guide to Lifelong Financial Freedom. Currently he serves as director of KRANC COMMUNICATIONS, a full-scale marketing and content firm founded in 2011 serving a global financial services clientele.
