What is Private Equity ETF?
Private Equity ETF is a type of exchange traded fund that only invests in companies that do not trade on stock exchange and provides an opportunity even for small investors to participate and gain from such exposure.
- As PE investment is supposed to be a long-term investment, it is illiquidIlliquidIlliquid refers to an asset that cannot be converted to cash. Such assets suffer a valuation loss when sold in exchange for cash. Bonds, stocks and properties are some examples of illiquid investment.; however, the investment in an ETF provides buying and selling flexibility and therefore generates flexibility and attracts a larger pool of investors.
- Investment required to own a share in a privately held company is huge because these companies are in their growth phase; however, they don’t possess the professional management strength of a listed company. For the smooth running of the business, they seek investment from venture capitalists or angel investorsAngel InvestorsIndividuals who invest in new firms and start-ups are known as angel investors. In exchange, they demand equity or debt. It's more of an informal investing approach in which the company doesn't have to go through a lot of compliances., and so on. One such investor could be an investment management firm.
- These firms, which themselves are listed on the stock exchangeStock ExchangeStock exchange refers to a market that facilitates the buying and selling of listed securities such as public company stocks, exchange-traded funds, debt instruments, options, etc., as per the standard regulations and guidelines—for instance, NYSE and NASDAQ., enter into such an investment because they have a longer investment horizonInvestment HorizonThe term "investment horizon" refers to the amount of time an investor is expected to hold an investment portfolio or a security before selling it. Depending on the need for funds and risk appetite, the investor may invest for a few days or hours to a few years or decades., lower immediate liquidity requirement, and diversification requirement. Therefore they hold huge chunks of PE investment.
- At times these firms enter into the ETFETFAn exchange-traded fund (ETF) is a security that contains many types of securities such as bonds, stocks, commodities, and so on, and that trades on the exchange like a stock, with the price fluctuating many times throughout the day when the exchange-traded fund is bought and sold on the exchange. format in which they subdivide their ownership into small units of shares, also knows as creation units, for relatively smaller investors to participate in. These shares are sold through the exchange and provide exposure to the PE domain.
- Further, the benefit of investing in an ETF is that it is traded on the exchange and therefore brings greater transparency in PE exposure, which is otherwise not possible in the investment in this domain.
Example of Private Equity ETFs
PSP – Invesco Global Listed Private Equity ETF is one of the most popular ETFs in this domain. The ETF invests a minimum of 90% of its AUM in around 40 to 75 companies, which form part of the Red Rocks Global Listed Private Equity Index (Index).
Some important fund details are as follows:
- Cusip: 46137V589
- ISIN: US46137V5892
- Management Fee: 0.50%
- Total Expense Ratio:Total Expense Ratio:The total expense ratio is the total investment cost to the investor who invests in a mutual fund, equity fund or exchange-traded fund. It included the transactional costs of investment, legal, management, auditor fees and many other miscellaneous operational expenses determining the final return on the investment. 1.80%
- Exchange: NYSE Arca
- Inception Date: 24th October 2006
Assets of the funds are mostly allocated in the Financial sector approximating to 70.79% as of 24th December 2019 as per the information published in the Invesco website, and the remaining 30% is spread across close to 9 other sectors, of which the Industrial sector leads at 10.25%
Further, according to the country-wise allocation, as on the same date, the US holds 39.70% of the total AUM, and the UK holds 18.09%
Based on the nature of the investment, as on 23rd December 2019, the ETF had the following percentages:
#1 – Performance Overview
As compared to the underlying index, Red Rocks Global Listed Private Equity Index (Index), The ETF has been lagging behind in terms of the growth per $10000 as of 30th September 2019, and this is due to the variation in the securities composing the two. The fund’s growth trajectory follows a similar pattern as that of the underlying index because most of its composition contains the same securities; however, the difference in asset allocation has not been favorable to the ETF.
In absolute terms, the value of $10000 became $27,606 for the underlying index and 24,212 for the ETF. Therefore we can say that the tracking errorTracking ErrorTracking Error Formula measures the divergence arising between the price behaviour of the portfolio and the price behaviour of the respective benchmark. Tracking error = Rp-Ri (Rp = return from the portfolio, Ri = return from the index) for this ETF is non zero, and it has not been able to fully replicate the underlying index.
- The total number of outstanding sharesOutstanding SharesOutstanding shares are the stocks available with the company's shareholders at a given point of time after excluding the shares that the entity had repurchased. It is shown as a part of the owner's equity in the liability side of the company's balance sheet. in the fund is 16.35 million having a market value of $206.5 million as of 24th December 2019
- ROEROEReturn on Equity (ROE) represents financial performance of a company. It is calculated as the net income divided by the shareholders equity. ROE signifies the efficiency in which the company is using assets to make profit., as of 30th September 2019, was 12.58% and was calculated by dividing the net income by net worth.
- The price to book ratioPrice To Book RatioPrice to Book Value Ratio or P/B Ratio helps to identify stock opportunities in Financial companies, especially banks, and is used with other valuation tools like PE Ratio, PCF, EV/EBITDA. Price to Book Value Ratio = Price Per Share / Book Value Per Share , which is calculated by dividing the market price by the book value, was 1.80 as of 30th September 2019
#2 – Risk Overview
The risks involved in investing in this ETF are as follows:
- Some of the securities in the ETF are in the form of ADR and GDRGDRGlobal Depository Receipt is a receipt in which a security certificate is issued by financial intermediaries such as a depository bank, which purchases foreign securities, creates a bank certificate consisting of such shares, and then sells them on the stock exchange.; that is, the underlying investment is made in foreign companies and therefore are subject to currency risk and country risk.
- As the investment is made in the stocks of smaller companies, the returns get affected by the slowdown in their respective economy more brutally and quickly than the returns on the stock of publicly listed companies.
- Further, there is a lack of liquidity in such an investment.
- This particular fund is focused on the Financials sector and therefore is less diversified. Therefore any small negative force in the sector has a greater impact on the returns.
- Lack of availability of public information doesn’t help the investors much as the investment is not an informed one.
So we can understand that the PE ETF is a way through which the relatively smaller investors can get exposure to privately held companies in order to diversify their portfolio. Although this exposure is possible, investment in ETF can only be made in multiples of creation unit blocks, which is not very small, and therefore we say such an investment is only ‘relatively’ small when compared to a direct investment in the private equity domain.
It is a means for the investment management firms to generate capital that they might invest in such companies in expectations of huge returns; however, the risk of such an investment is higher than investing in any other listed securityListed SecurityListed security refers to a financial instrument such as stocks, bonds, derivatives, etc., registered with and readily tradable on the stock exchanges like NASDAQ and NYSE..
This has been a guide to what is Private Equity ETF and its definition. Here we discuss an example of a private equity ETF with its performance and risk overview along with a detailed explanation. You can learn more about from the following articles –