Alternatives should have a weaker first quarter than 4Q13 due to both seasonal effects and mixed results from equity markets, but lower valuations caused by a slump in net income may be a good opportunity to invest in funds that still have solid results and are poised to perform later in the year.
Pullback gives investors a chance to move in
“We view the recent pullback in the shares as creating attractive entry points as the growth outlook remains strong, valuations are attractive, and the equity yields remain substantial,” writes Sterne Agee analyst Jason Weyenth in an April 9 report. “BX is our favorite name given the outlook for growing realizations and a potential catalyst in 2H14 if BCP V continues toward its return hurdle.”
Apollo Global Management LLC (NYSE:APO), The Blackstone Group L.P. (NYSE:BX), and Kohlberg Kravis Roberts & Co. (KKR) (each of which Weyenth rates a Buy) are down 8% – 15% from March highs, but without a clear reason for the sudden declines. Weyenth argues that their asset values are strong, interest rates are still low, and the funds are still looking at long-term secular growth, so the contraction doesn’t make sense. He notes that news of the Securities and Exchange Commission’s private equity enforcement group or concerns about volatility could have investors worried, causing some of them to take profits now and see how things play out.
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A lack of realization events could cause 1Q14 to be slow
He estimates that Apollo Global Management LLC (NYSE:APO) will have a first quarter ENI of $0.54, $0.14 below consensus, because of the severance being paid to outgoing President Marc Spilker and the possibility that its GAAP tax rate will be higher than expected as its earnings mix has changed. Realization activity maybe down sequentially, though it’s possible that there have been some non-publicized events. Weyenth estimates a distribution of $0.72 from Apollo.
He is similarly below consensus on The Blackstone Group L.P. (NYSE:BX), estimating a 1Q14 ENI of $0.52 compared to a consensus of $0.62, mostly because he expects Blackstone to earn less from its real estate segment, and a distribution of $0.49 from the sale of Broadgate. Private equity exits were mostly in BCP V, which is likely still below its hurdle rate and won’t be able to collect performance fees this quarter.
“BCP V likely continued to progress toward its hurdle with an estimated ending shortfall of $835 million, potentially paving the way for the fund to move into a position to accrue and pay carry in 2H14,” writes Weyenth.
Weyenth’s 1Q14 ENI estimate for Kohlberg Kravis Roberts & Co. (KKR) is in line with consensus at $0.53 because the fund seems to have performed well last quarter, but didn’t have many realization events so performance fees will be a bit low. He expects fees to pick up over the next few quarters as already announced strategic sales are closed.