Why Direct when you can invest in Secondaries?

George Wonder's picture
Rank: Monkey | banana points 34

Why would anyone invest in a Direct PE fund when you can invest in Secondaries? The reason I ask is because I've consistently seen Secondaries outperform Direct funds on an IRR-basis (thx j-curve mitigation). There also seems to be significantly less risk given that a Secondary investor holds insight re the performance of the actual portfolio companies before tossing money into a position.

Do Direct funds outperform these Secondaries on a cash-on-cash basis? That seems to be the only explanation I can think of. I'm really curious to understand if there's any other explanation, or if my assumption is simply not true...

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Comments (5)

Jan 4, 2019

Following.

Jan 5, 2019

You are correct in that two of the primary benefits of investing in a secondary fund is the j-curve mitigation and the lack of blind pool risk.
But your MOIC is always going to be lower in a secondary fund compared to a direct fund, unless you lever your position. Take Fund ABC, a 5 year fund which is currently at 1.35x. You expect the final MOIC to be ~1.8x. If you invest in the secondary at the 5 year mark, you get to ride the fund from 1.35x to 1.8x, compared to the direct investor who goes from 1.0x to 1.8x.
Given the pricing levels in the secondary market currently (people are buying high quality positions at 10% - 15% premium to last quarter NAV), it is near impossible to make a decent return without leverage.

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Jan 5, 2019

Another factor is premium flagship funds don't go on the market much. It's hard enough to get into a consistently over subscribed flagship fund, why would people put it on the secondaries market on any consistent basis?

Jan 5, 2019

Typically, due to strategy or regime change at the institutional investor. A good example is the new CEO at Harvard's endowment who essentially reset the entire program.

Robert Clayton Dean: What is happening?
Brill: I blew up the building.
Robert Clayton Dean: Why?
Brill: Because you made a phone call.

Jan 5, 2019
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