The private markets universe, private equity in particular, has experienced significant growth in recent years. Private equity assets under management increased from $4.1 trillion in mid-2019 to $5.8 trillion by the end of 2023, with projections estimating they could reach $12 trillion by 2029, according to Preqin. Katarina Staaf, CEO of the Sixth Swedish National Pension Fund (AP6) since 2019 and with over 20 years of private equity experience, has witnessed this growth firsthand.
Staaf identifies two main drivers behind the significant increase in the private equity industry’s assets under management. “Value creation in the form of superior returns compared to public markets has attracted significant new capital from both new investors and existing investors,” explains the CEO of AP6, which exclusively invests in private equity. “The growth in private equity market is the result of a combination of value creation and increased allocations to the asset class.” While both private and public equity exposure investors to equity market risk, Staaf highlights critical differences between the two.
“The growth in private equity market is the result of a combination of value creation and increased allocations to the asset class.”Katarina Staaf, CEO of the Sixth Swedish National Pension Fund (AP6).
“In public markets, activity revolves around the buying and selling of stocks,” explains Staaf, which in turn facilitates price discovery. Public markets are secondary markets, where investors trade existing shares rather than directly invest in companies. “In contrast, the private equity market is completely driven by negotiation-based transactions,” adds Staaf. Investors typically acquire stakes in private businesses, work to improve their value, and eventually sell them at a higher price to another buyer, often through a strategic sale or IPO. “This market is driven by transactions,” Staaf emphasizes, “because these transactions create realized returns and crystalize value creation.”
However, transaction activity has slowed significantly since the middle of fall in 2022. “The volume of transactions slowed down substantially, driven by risk-off in the market. There were various factors that contributed to the decline after the war started in early 2022,” Staaf notes. While public markets quickly reacted to the war in Ukraine and its consequences across economies, “not much happened in private equity due to the slower-moving nature of transactions,” she explains, pointing out that deals signed in April might only close in October. “Everything moves more slowly in private markets.”
“The volume of transactions slowed down substantially, driven by risk-off in the market. There were various factors that contributed to the decline after the war started in early 2022.”Katarina Staaf, CEO of the Sixth Swedish National Pension Fund (AP6).
According to Staaf, transaction activity has remained sluggish for nearly 24 months. “It’s not entirely dead, but it’s much slower than usual and far below 2021 levels,” she observes. The slowdown has had several knock-on effects: fewer distributions from private equity funds, fewer new investments, and longer fundraising cycles. “If nothing is sold and no new investments are made, we’re just in a steady state,” she says. “There’s talk that some companies are ready to be sold, but the IPO market isn’t quite open, and buyers are more cautious.” However, Staaf and her team have started to see a shift this fall. “Things are beginning to move again, correlating with the improving sentiment as central banks start to lower rates.”
Private Equity Focus: Value Creation
Despite the slower pace of transactions, the private equity market remains active, with private equity managers focused on their core task: developing and growing businesses. “Value creation is the core competency of private equity managers, or at least, it should be,” emphasizes the CEO of AP6, which oversees SEK 75 billion in private equity investments through funds and co-investments. “Private equity is about developing companies and many in the industry are dedicated to improving businesses in various ways,” adds Staaf. “That’s the primary objective – value creation.”
“Value creation is the core competency of private equity managers, or at least, it should be.”Katarina Staaf, CEO of the Sixth Swedish National Pension Fund (AP6).
In the low-interest-rate environment of the past, some private equity managers relied on financial engineering to generate returns. However, the recent shift to higher interest rates has renewed the focus on operational improvements and value creation. “Some managers are good at value creation, while others may have relied more on financial engineering. It’s not the same as true value creation,” Staaf acknowledges. For AP6, the priority has always been to find managers focused on genuine value creation. “That should be their core strength, and that’s what we are looking for.”
Value creation is critical because “what ultimately matters is the realized returns – the difference between the purchase and sale price of a company, which determines your return,” Staaf explains. Unlike public equities, where volatility, Sharpe ratios, and other metrics are important measures of risk and return, private equity’s performance is best gauged through metrics like cash flow multiples and internal rates of return. “Everything you know about the normal way of measuring risk and return, put that in a box, because private equity is completely different.”
“What ultimately matters is the realized returns – the difference between the purchase and sale price of a company, which determines your return.”Katarina Staaf, CEO of the Sixth Swedish National Pension Fund (AP6).
Staaf further underscores that “private equity is not really comparable to public equity.” The two asset classes are uncorrelated and behave very differently. Private equity, therefore, can serve as a “perfect diversifier” for long-term investors, such as pension funds. In addition to providing higher long-term returns through value creation, “the opportunity set in private and public markets is entirely different,” Staaf concludes. “For pension capital, this is an ideal asset class.”
However, the abundance of private equity managers and funds complicates the selection process for investors. “There are many funds out there that may not deliver the returns one would expect from this asset class,” says Staaf. From a pool of over 13,000 funds, AP6 typically maintains between 40 and 60 fund relationships following a market mapping and a structured selection process. As a pension fund manager with over two decades of experience in private equity investing, AP6 has developed its own models to monitor, analyze, and select funds. “It’s truly like finding a needle in a haystack to identify the funds and managers we choose to work with.”
Photo by Johan Olsson.
