Victoria Ivashina

The consistent growth of long-term alternative asset managers in the past four decades coincided with the secular decline in interest rates. This has been an important tailwind for the private equity industry’s development as debt markets became increasingly cheaper, and institutional investors were searching for ways to offset the shrinking yields on their fixed income portfolios. The past decade, however, has marked a new monetary policy regime: short-term rates have been trapped at zero and it is clear that the favorable environment of declining rates will no longer be there. This development is likely to redefine the growth trajectory, composition and economics of the private equity industry in the decades to come. This first report in a new series from the Long-Term Investors think tank at the University of Torino and CEPR expands on the dynamics at play that shape the development of the global private equity industry and its interaction with the interest rate environment and explores the consequences of deceleration in its growth.

The report commends the broad-based governmental actions initially taken to support the economy, citizens, and the corporate sector during the Covid pandemic. However, structural changes in our economies due to the pandemic, and growing corporate solvency challenges, require a new mix of policy responses and tools. The report urges governments to move away from broad support and toward more targeted measures, enabling the reallocation of resources needed for economies to emerge from the crisis fitter and stronger.

In jurisdictions with strong private financial institutions and deep capital markets, this means mobilizing various mechanisms, tools, and markets to prioritize financial restructuring, with policymakers administering additional support where necessary. Key to this process will be to identify and support firms that will be viable in the post-pandemic economy, while repurposing the resources of those that will not. The report offers a framework to guide policymakers in this task. If comprehensive action is taken early, corporate distress will not hold back the return to sustained growth.

Companies are scrambling for cash in the wake of the pandemic. Unfortunately, for structural reasons they are unlikely to get the cash they need from their traditional lenders, even though the financial system is in relatively good shape and there are reserves of cash that could potentially be tapped. Government intervention will be required to help release the private capital available, but what is on the table with the CARES Act needs some amendments if the government is to get the cash where it’s needed.

This essay was submitted as comments in connection with the Federal Reserve Board’s corporate loan purchase facilities collectively called the Main Street Lending Program (“MSLP”.) 

There has never been a greater need for long-term investments. And it is increasingly unlikely that the public sector will be willing or able to fill the gap. Those best positioned to address the long-run needs are likely to be the pools of capital in the hands of pensions, insurers, sovereign wealth funds, endowments, and families. In addition to their long time frames, these institutions command enormous sums. Yet, in many cases, despite abundance of capital and substantial needs for returns, long-term investments have been problematic at best. Building on recent academic research, our own work, and many discussions with practitioners, this book outlines the key challenges facing long-term investments and suggests ways to address them. Over the past several decades, “private equity” has been the primary way in which longer-term illiquid investments have been made. In dissecting the motivations and actions of the key actors in the world of long-run investing, we will have a careful look at traditional fund models, but we will also analyze other ways to pursue concentrated and long-term investments.

Foreign banks’ lending to firms in emerging market economies is large and denominated predominantly in U.S. dollars. This creates a direct connection between U.S. monetary policy and EME credit cycles. We estimate that over a typical U.S. monetary easing cycle, EME borrowers experience a 32-percentage-point greater increase in the volume of loans issued by foreign banks than do borrowers from developed markets, followed by a fast credit contraction of a similar magnitude upon reversal of the cycle. Consistent with a risk-driven credit-supply adjustment, we show that the spillover is stronger for riskier EMEs, and, within countries, for higher-risk firms.

When innovation and entry are high in an industry, is this good or bad news for incumbents? We show that recently the answer has been bad news.  Industries with elevated venture capital activity and returns, and with a larger presence of newly listed firms, show a loss of revenue market share for established firms. The success of new firms is associated with higher credit risk of industry incumbents, more bond defaults, higher credit spreads on newly issued bonds, and other signs of stress. If future innovations continue to enable disruption, credit risk can be expected to remain high.

This book is a collection of cases and notes that have been used in Private Equity Finance, an advanced corporate finance course offered in the second year of the Harvard Business School’s MBA curriculum, over several years. The goal of the book is to provide a detailed insight into the sources of value creation, and the process of the deal making in the private equity industry.