Great post, with which I concur, and particularly the focus (or lack of) on how buybacks are implemented. Unlike HVPE, i hold FAIR who long had a large NAV discount, clearly laid out a plan to reduce (with buybacks) to the point that recently the SP was at a small premium. Done in a disciplined way they can work - interestingly FAIR's investment mgr mandate states they have to refund 50% of any fees whilst the SP is at a discount to NAV- which I don't recall seeing elsewhere.
Thanks Damien and very interesting. I'd like to see more managers do the right thing and refund fees in that way. And I'd like regulators to step in and say that basing fees on NAV at times when the shares trade at a material discount to NAV is a breach of the duty to treat consumers fairly.
I also hold FAIR/FA17 - a larger holding for me than of HVPE. I don't think the manager has to refund fees but they do have to reinvest part of their fees in buying shares in the market.
Hi Donald, I have been a long time follower of yours on Twitter and just stumbled on your Substack just now. Great article thank you. Once the market turns and money floods in I like to think investors will see the opportunities and discounts narrow.
Looking forward to reading more of your financial articles 😀.
Good post, Paul. One comment though, regarding HVPE, where I am a fellow shareholder: they have recently made a commitment to allocate 15% of realisations they receive to shareholder distributions, including buybacks.
The problem HVPE has currently is that it has outstanding commitments to invest in Harbourvest funds of $2.4bn. Normally, these commitments are met from realisations. However, for the last 19 months capital calls have exceeded commitments and as a result HVPE's net cash has declined from $272m to net debt of $224m. This is the result of the dearth of IPOs and M&A transactions.
Clearly, these negative cashflows limit the company's ability to buy back shares, without reneging on its commitments.
The company has also reduced the level of new commitments - but it will take several years for this to impact the level of capital calls.
Therefore, ISTM that the key to HVPE's performance will be a reopening of the IPO and M&A market. I am confident that this will happen (and believe that it is already starting to). In time, that should be reflected in HVPE's cashflow, opening the door to larger buybacks.
I'm prepared to be patient - and suspect that the discount will reduce when HVPE's cashflows improve.
Oops! "However, for the last 19 months capital calls have exceeded commitments and as a result HVPE's net cash has declined from $272m to net debt of $224m." should have read "However, for the last 19 months capital calls have exceeded realisations and as a result HVPE's net cash has declined from $272m to net debt of $224m."
Yes, I accept that PE funds have to balance commitments and cash available for buybacks. However, HVPE owes its commitments to Harbourvest funds. Given that commonality of interests, there must be a way of reducing those commitments. Pantheon has moved from a model of investing in funds to making direct co-investments with the managers. That provides much greater flexibility on the use of cash. That is what HVPE should be moving to, and Harbourvest should themselves have accommodated the request.
I do agree about the IPO and M&A markets, and there are already positive signs there. Though it is strange how most stock markets are at all time highs and yet IPOs are still rare as hen's teeth.
Hi, I saw this article on ShareSoc newsletter. Enjoyed it and thought I would comment.
Here's an unfashionable opinion... I DISAGREE that boards should attempt to reduce discounts.
There are some exceptions:
- where the discount makes buybacks more profitable than new investments, debt reduction or dividends (your example of the 66% profit).
- for the wealth preservation trusts, such as CGT, PNL, a permanent DCM (Discount Control Mechanism) can reduce volatility and increase liquidity, which I think are beneficial for the wealth preservation goal.
- possibly to clear a short term overhang of people selling for some specific reason that is depressing the shares (eg. people selling after a merger because the new remit doesn't suit them).
But the situation you are discussing, with your example of HVPE, is a problem of weak medium/long term sector sentiment. There is no evidence that buybacks will solve that problem, unless they are a permanent DCM, which does not suit HVPE or PE more generally. The only way that problem can be resolved is by sector sentiment improving.
The PE sector is illiquid. NAVs are based on an expert valuers opinion, not fact. We only find out if the valuation is roughly correct when an asset is sold, but market conditions have prevented many sales. It's likely that the few sales that have happened are the better investments, the duds are still owned by the PE trusts. Therefore, investors do not trust those estimated NAVs. In other words, investor sentiment is poor for PE currently, so there are few buyers and discounts are wide. Same goes for all the illiquid sectors, renewables, infrastructure, property, etc. All sensitive to interest rates and with questionable estimated NAVs. If you look at liquid listed equity trusts, their discounts aren't nearly as wide, because they are based on fact not opinion.
A buyback might modestly improve short term sentiment, because there will be a buyer for the shares (the trust itself) and other investors will be encouraged that the discount might narrow and so be more likely to buy in the short term. But as soon as the buybacks cease, or even the news fades from investor memory, then there's no reason why share price shouldn't slide back to match sector sentiment again. Unless the sentiment itself improves, meaning investors will be willing to buy for "real" reasons, not just because the discount is being artificially manipulated.
Evidence for this... Pantheon (plus all the other trusts that tried it, with no significant long term improvement). It trumpeted its buybacks and there was an improvement in the discount to about 31%. But then as the initial impact faded the share price slid back to its current 37% level, barely better than when it started. HVPE is now on a slightly lower discount. That's partly because HVPE has its own much vaguer and non-committal buyback plan, but also possibly because it made its board more independent. But the discounts of both are still far wider than their average despite the buybacks. That will only change when sentiment improves.
I think a buyback is mainly for the purposes of a board being seen to "do something". I don't believe they make a long term improvement to the discount. I don't want to see boards wasting time and money manipulating the discount short term for no long term impact. I do not see discounts as a problem. They provide a cheap entry point, a way for income investors to get a higher yield and are a useful medium/long term buy/sell signal.
As a similar frustrated investor in HVPE I look forward to something happening as it is sat there as dead money currently.
One of the issues with PI's voting (on both IT's & single co's) is the lack of knowledge of the forthcoming events. Whilst brokers have improved the availability of voting instructions it still doesn't sit at the forefront of their platforms. Reminder to self to look more often/closely at HL's forthcoming events.
Great post, with which I concur, and particularly the focus (or lack of) on how buybacks are implemented. Unlike HVPE, i hold FAIR who long had a large NAV discount, clearly laid out a plan to reduce (with buybacks) to the point that recently the SP was at a small premium. Done in a disciplined way they can work - interestingly FAIR's investment mgr mandate states they have to refund 50% of any fees whilst the SP is at a discount to NAV- which I don't recall seeing elsewhere.
Thanks Damien and very interesting. I'd like to see more managers do the right thing and refund fees in that way. And I'd like regulators to step in and say that basing fees on NAV at times when the shares trade at a material discount to NAV is a breach of the duty to treat consumers fairly.
I also hold FAIR/FA17 - a larger holding for me than of HVPE. I don't think the manager has to refund fees but they do have to reinvest part of their fees in buying shares in the market.
Marven100; yes you are spot on, my error. It's also 25% of fee reinvested.
Hi Donald, I have been a long time follower of yours on Twitter and just stumbled on your Substack just now. Great article thank you. Once the market turns and money floods in I like to think investors will see the opportunities and discounts narrow.
Looking forward to reading more of your financial articles 😀.
Good post, Paul. One comment though, regarding HVPE, where I am a fellow shareholder: they have recently made a commitment to allocate 15% of realisations they receive to shareholder distributions, including buybacks.
The problem HVPE has currently is that it has outstanding commitments to invest in Harbourvest funds of $2.4bn. Normally, these commitments are met from realisations. However, for the last 19 months capital calls have exceeded commitments and as a result HVPE's net cash has declined from $272m to net debt of $224m. This is the result of the dearth of IPOs and M&A transactions.
Clearly, these negative cashflows limit the company's ability to buy back shares, without reneging on its commitments.
The company has also reduced the level of new commitments - but it will take several years for this to impact the level of capital calls.
Therefore, ISTM that the key to HVPE's performance will be a reopening of the IPO and M&A market. I am confident that this will happen (and believe that it is already starting to). In time, that should be reflected in HVPE's cashflow, opening the door to larger buybacks.
I'm prepared to be patient - and suspect that the discount will reduce when HVPE's cashflows improve.
Best
Mark
Oops! "However, for the last 19 months capital calls have exceeded commitments and as a result HVPE's net cash has declined from $272m to net debt of $224m." should have read "However, for the last 19 months capital calls have exceeded realisations and as a result HVPE's net cash has declined from $272m to net debt of $224m."
Yes, I accept that PE funds have to balance commitments and cash available for buybacks. However, HVPE owes its commitments to Harbourvest funds. Given that commonality of interests, there must be a way of reducing those commitments. Pantheon has moved from a model of investing in funds to making direct co-investments with the managers. That provides much greater flexibility on the use of cash. That is what HVPE should be moving to, and Harbourvest should themselves have accommodated the request.
I do agree about the IPO and M&A markets, and there are already positive signs there. Though it is strange how most stock markets are at all time highs and yet IPOs are still rare as hen's teeth.
Hi, I saw this article on ShareSoc newsletter. Enjoyed it and thought I would comment.
Here's an unfashionable opinion... I DISAGREE that boards should attempt to reduce discounts.
There are some exceptions:
- where the discount makes buybacks more profitable than new investments, debt reduction or dividends (your example of the 66% profit).
- for the wealth preservation trusts, such as CGT, PNL, a permanent DCM (Discount Control Mechanism) can reduce volatility and increase liquidity, which I think are beneficial for the wealth preservation goal.
- possibly to clear a short term overhang of people selling for some specific reason that is depressing the shares (eg. people selling after a merger because the new remit doesn't suit them).
But the situation you are discussing, with your example of HVPE, is a problem of weak medium/long term sector sentiment. There is no evidence that buybacks will solve that problem, unless they are a permanent DCM, which does not suit HVPE or PE more generally. The only way that problem can be resolved is by sector sentiment improving.
The PE sector is illiquid. NAVs are based on an expert valuers opinion, not fact. We only find out if the valuation is roughly correct when an asset is sold, but market conditions have prevented many sales. It's likely that the few sales that have happened are the better investments, the duds are still owned by the PE trusts. Therefore, investors do not trust those estimated NAVs. In other words, investor sentiment is poor for PE currently, so there are few buyers and discounts are wide. Same goes for all the illiquid sectors, renewables, infrastructure, property, etc. All sensitive to interest rates and with questionable estimated NAVs. If you look at liquid listed equity trusts, their discounts aren't nearly as wide, because they are based on fact not opinion.
A buyback might modestly improve short term sentiment, because there will be a buyer for the shares (the trust itself) and other investors will be encouraged that the discount might narrow and so be more likely to buy in the short term. But as soon as the buybacks cease, or even the news fades from investor memory, then there's no reason why share price shouldn't slide back to match sector sentiment again. Unless the sentiment itself improves, meaning investors will be willing to buy for "real" reasons, not just because the discount is being artificially manipulated.
Evidence for this... Pantheon (plus all the other trusts that tried it, with no significant long term improvement). It trumpeted its buybacks and there was an improvement in the discount to about 31%. But then as the initial impact faded the share price slid back to its current 37% level, barely better than when it started. HVPE is now on a slightly lower discount. That's partly because HVPE has its own much vaguer and non-committal buyback plan, but also possibly because it made its board more independent. But the discounts of both are still far wider than their average despite the buybacks. That will only change when sentiment improves.
I think a buyback is mainly for the purposes of a board being seen to "do something". I don't believe they make a long term improvement to the discount. I don't want to see boards wasting time and money manipulating the discount short term for no long term impact. I do not see discounts as a problem. They provide a cheap entry point, a way for income investors to get a higher yield and are a useful medium/long term buy/sell signal.
Long live the discount!
Great article Donald.
As a similar frustrated investor in HVPE I look forward to something happening as it is sat there as dead money currently.
One of the issues with PI's voting (on both IT's & single co's) is the lack of knowledge of the forthcoming events. Whilst brokers have improved the availability of voting instructions it still doesn't sit at the forefront of their platforms. Reminder to self to look more often/closely at HL's forthcoming events.