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Public Vs Private Markets

  • Writer: nipunkapur5678
    nipunkapur5678
  • Sep 13, 2024
  • 7 min read

Updated: Oct 26, 2024

The global economic landscape is increasingly volatile, with Indian markets recently experiencing a sharp 4% decline amid escalating US recession fears and geopolitical tensions in the Middle East. This downturn comes against a backdrop of high valuations, with the Nifty trading significantly above its 10-year average. As global uncertainty looms large, investors are reassessing their strategies, seeking alternatives that can oIer stability and long-term growth. In this environment, private markets present a compelling opportunity, particularly within India's dynamic economic framework.

What happened:

The global semiconductor market, once a powerhouse of stock market gains, is now facing a steep decline. Major players like Nvidia, AMD, and TSMC have seen their stock prices tumble amid fears of an AI bubble and broader economic challenges. Investors, who were once buoyed by the promise of AI-driven growth, are now grappling with overvalued stocks and longer-than- expected timelines for returns. As the Federal Reserve hints at possible interest rate cuts, portfolios are shifting away from these high-flying tech stocks, reflecting growing caution in the market.

Amidst this turbulence, some see a buying opportunity, while others warn of further declines. The semiconductor industry, despite its recent struggles, remains at the heart of AI and tech innovation, but the road ahead looks uncertain as macroeconomic pressures and investor scepticism take hold.

That being said, this is just one part of the story. This week's significant market upheaval was driven in part by the unwinding of "carry trades," a strategy where investors borrow in low- interest-rate currencies like the Japanese yen to invest in higher-yield assets such as U.S. stocks. This strategy relies on the stability of exchange rates and interest rate diIerentials. The Bank of Japan's recent interest rate hike, intended to encourage economic growth, disrupted this strategy by causing the yen to appreciate against the U.S. dollar. As a result, investors scrambled to sell oI U.S. assets, such as stocks and bonds, to cover their positions, exacerbating a sell-oI already fuelled by fears of a potential U.S. recession and the overvaluation of technology shares.

This rush to liquidate positions led to steep losses in global markets, including a 12.4% drop in Japan's Nikkei 225 and significant declines in European and North American markets. The sharp sell-oI was further intensified by the automated risk management systems of hedge funds, which forced them to sell assets to maintain their risk profiles.

Although markets recovered some of their losses the next day, the broader damage remains, with analysts divided on whether this bout of volatility is over or if more turmoil is ahead. The episode underscores the risks of carry trades during periods of market instability. While profitable during stable times, carry trades can lead to cascading sell-oIs when market conditions change rapidly, as seen in this instance. This scenario is reminiscent of past financial crises, such as the 2007-2008 meltdown in Iceland's financial sector, which was also exacerbated by carry trades.

As the global financial landscape continues to shift, particularly with expectations of interest rate cuts by the U.S. Federal Reserve, the future of carry trades remains uncertain. Investors may continue to be drawn to this strategy, but they will need to navigate the associated risks carefully, especially during periods of high market volatility.

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Private equity has consistently outperformed the S&P 500 across various time horizons. For example, over a 5-year period, the Pitchbook North American Private Equity Index returned 18.3%, while the S&P 500 returned 9.9%. Over a 10-year period, private equity yielded a return of 17.3% compared to the S&P 500’s 11.9%. This trend continues over longer periods, with private equity returning 14.3% over 15 years versus the S&P 500’s 11.3%, and 15.2% over 20 years, significantly outperforming the S&P 500’s 9.7%.

The S&P 500’s performance has become increasingly driven by a small group of large-cap U.S. tech and tech-related firms, often referred to as the "Magnificent 7." These companies account for over 30% of the index’s weight and 61% of its year-to-date return. In contrast, small- and mid-cap stocks have underperformed, with small-cap stocks showing a year-to-date return of just 0.46%.

In recent decades, there has been a significant shift in market dynamics, with the number of public companies declining by 35% and the number of private companies increasing by 43%. This suggests that there is a growing, often untapped, opportunity in private markets.

While private equity has historically been accessible mainly to large institutions such as pension funds and endowments due to high investment minimums and strict suitability requirements, recent developments are making private equity more accessible to individual investors. New investment vehicles are addressing traditional challenges such as liquidity and transparency, making it easier for a broader range of investors to benefit from the higher returns typically associated with private equity investments.

Impacts on the Indian Markets:

Indian stock markets collapsed in the early hours of Monday, as global peers fell amid disappointing US employment statistics and mounting signs of a Middle East war between Iran and Israel. The benchmark BSE Sensex fell 2,686 points, or 3.3 percent, in intraday trading to 78,296. The NSE Nifty50, on the other hand, fell below the 24,000 barriers, reaching a low of 23,894. The index lost 824 points, or 3.3 percent. The Sensex closed at 78,768.42, down 2,223 points, or 2.74 percent, while the Nifty50 fell 662 points, or 2.68 percent, to conclude at 24,055. After a gigantic amount of INR 17,000 Cr being wiped out from the Indian markets, the investors can be seen in a situation of panic and frenzy.

The reasons are rather global. Be it the Middle East war tensions or the Yen Carry trade or US’s recession like indicators, Indian markets have suIered a lot. Earlier last week China’s ongoing property issues surfaced leading to 40 banks vanishing within a week, being absorbed into larger institutions due to severe issues with bad loans. The extent of the problem is staggering, with around 3,800 troubled institutions holding 55 trillion Yuan ($7.5 trillion) in assets, representing 13% of the total banking system in China. All these issues collaborated to paint a not so happy picture of the Indian stock market.

Indian Private vs Public Equity:

Over a long-term horizon, private equity in India has consistently outperformed public equity markets. The Indian private equity investments delivered a median internal rate of return (IRR) of 16% from 2010 to 2020, compared to the BSE Sensex, which delivered around 8-10% during the same period. Also, since private markets are less susceptible to the daily market fluctuations and speculative trading that often aIect public markets. Indian private equity has shown lower volatility compared to public equities, making it a more stable investment during periods of economic downturns.

The current situation poses an immense opportunity for the Indian investors to invest in the private markets which remains hugely untapped. India's National Pension System - which oversees 10 pensions - had 8.99 trillion rupees ($107 billion; €100 billion) under management as of 31 March 2023, according to its latest annual report. Only 0.12% of its portfolio is allocated to alternative investments, comprising real estate investment trusts, infrastructure investment trusts and some bonds. As per the Insurance Regulatory and Development Authority of India, India’s life insurance companies have an enormous INR 35.2 Trillion or $419 Billion in AUM but the allocation to the private markets remains scarce.

For the longest time, regulations barred the pension funds from investing in Private Equity and Venture Capital. That said, the regulatory landscape has improved. In 2021, India's Ministry of Labour and Employment and the Insurance Regulatory and Development Authority of India introduced a series of measures designed to raise the participation of pensions and insurers in domestic private markets. These eIorts had the potential to unlock approximately $28 billion of institutional capital for alternative assets.

According to India's Pension Fund Regulatory & Development Authority, pensions are currently allowed to invest up to 5 percent of their AUM into India-focused alternative investment funds regulated by the Securities and Exchange Board of India. These AlFs must reach at least 1 billion rupees in size and the commitment must not exceed 10 percent of the total fund.


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India saw a record number of PE/VC exits, with the total exit value growing by 21% compared to the previous year. This suggests an upward trend in both the number of exits and the total value of these exits over the years, indicating increasing stability and opportunity in the private markets. This underscores the growing attractiveness of Indian private markets, particularly in 2023, despite the broader economic challenges.

Conclusion:

The global economic landscape is fraught with volatility, with Indian markets recently bearing the brunt of global uncertainties, including fears of a US recession, geopolitical tensions, and disruptions in the semiconductor market. Amidst this instability, the Indian stock market has seen sharp declines, causing significant investor concern. However, this turbulence in public markets contrasts with the performance and potential of private markets, particularly in India.

Indian private equity has consistently outperformed public equity over the long term, oIering a median internal rate of return (IRR) of 16% from 2010 to 2020, compared to the 8-10% returns from the BSE Sensex. Private markets are less susceptible to daily fluctuations and speculative trading, providing more stability during economic downturns. Furthermore, the increasing regulatory support and untapped institutional capital in India signal a growing opportunity in private markets.

Despite the broader market challenges, India saw a record number of private equity and venture capital exits in 2023, with a 21% growth in total exit value from the previous year. This trend underscores the increasing stability and attractiveness of Indian private markets, making them a compelling investment alternative in these uncertain times. The shift towards private markets, coupled with the recent regulatory developments, provides investors with a robust platform for long-term growth and stability, making private markets a more favourable option compared to the public markets.

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