Vanguard moves into private equity with HarbourVest partnership

Move raises prospect of rising fee pressure in most profitable arm of investment world

Vanguard is moving into private equity, reflecting strong demand for the asset class and raising the possibility of rising fee pressure in the most profitable sector of the global investment industry.

Pennsylvania-based Vanguard — the world’s second biggest investment group, with more than $6tn in assets under management — has struck a strategic partnership with HarbourVest, a $68bn private market specialist, to provide qualified investors with access to private equity.

Vanguard’s late founder Jack Bogle famously detested high-fee funds. Its move into a market dominated by US private equity giants such as Apollo Global Management, Blackstone Group and Carlyle Group marks a departure from the investment group’s traditional approach.

Vanguard plans to launch a private equity fund each year with HarbourVest, which will use the money for buyouts and also invest it in funds run by other private equity firms, said Fran Kinniry, head of private investments at Vanguard. However these are unlikely to include the industry’s largest funds run by the likes of KKR, Carlyle and Blackstone.

“HarbourVest will invest directly in deals but will also partner with general partners in certain areas,” said Mr Kinniry, who declined to comment on fees. ”Access to the best managers in the space is critical. HarborVest has been getting top access and the performance continues to be strong.”

Inigo Fraser-Jenkins, a senior analyst at Bernstein, said that end investors in private equity should benefit from a new competitor.

“It is not surprising that a competitor has decided to attack the fees charged by private equity,” he said. “The next step for public fund managers will be to democratise returns from private assets more broadly among investors.”

The new strategy will be initially available only to institutional clients including pension funds, endowments and foundations as part of an effort to offer more products to these clients. However Vanguard chief executive Tim Buckley said that it aimed to expand access to private equity to a wider range of investors over time.

“Private equity will complement our leading index and actively-managed funds, as we seek to broaden access to this asset class,” Mr Buckley said in a statement. “For individual investors in particular, this partnership will present an incredible opportunity — access and terms they could not get on their own.”

Vanguard has established a reputation as a ferocious competitor, using its scale to relentlessly cut fees to lure business from rivals. Index funds — like those offered by Vanguard and its larger rival BlackRock — are contributing to, and suffering from, this intensifying price war.

Private equity managers operate a more costly “two and 20” fee structure and have largely escaped the price war that has spread across the traditional mutual fund industry.

In an interview with the FT last year, Mr Buckley said Vanguard was actively researching a move into the private equity industry, given the swelling demand for the asset class. “Everyone sees the trend,” Mr Buckley said “We do have to look at it and say, ‘Could investors benefit from access to this?’”

Institutional investors have poured money into private equity in recent years, drawn in by a promise of higher returns and less volatility, at a time when a post-crisis bull run has dimmed the prospects for returns in mainstream public markets.

As a result, the global private equity industry has enjoyed four consecutive years of annual inflows exceeding $500bn, lifting its overall size to more than $4tn, according to Preqin.

This growth is set to continue. Morgan Stanley and Oliver Wyman estimate that, by 2023, “private capital” funds — of which private equity is the biggest slice — will account for a fifth of all investment industry revenues, up from 14 per cent in 2018.

In contrast, the revenue share of passive funds will stay constant at about 6 per cent, while traditional, active bond and equity funds will see their slice of the income pie shrink from 35 per cent to 21 per cent.

As money has poured into private equity, average acquisition prices have crept higher, more debt is being used, and “dry powder” is heaping up as firms cannot invest the money as quickly as they raise it. That has led some to warn that investors need to moderate their return expectations.

Vanguard initially dabbled with private equity nearly two decades ago, but shelved the effort after a lack of investor interest.
“The industry is evolving very quickly,” said Vanguard’s Mr Kinniry. “We’re going to be more friend than foe for the existing private equity ecosystem.”

Source: Financial Times

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