Thread by @eriktorenberg

How does COVID-19 affect LP/VC market for new funds?

Some thoughts paraphrased from a conversation with an older VC who's been through a couple cycles. 👇

(Curious for alternative perspectives.)

Zooming out:

LPs used to do 60% public stocks, 40% liquid bonds.

The next evolution was going heavy into illiquid alternative assets (PE, VC, and natural resources)

You could arbitrage your long time horizon as an institution to garner outsized gains by embracing illiquidity

So they allocated meaningful chunks of portfolio to PE broadly.

Maybe 3/4 buyout funds, 1/4 VC. All illiquid.

Over last decade, all of these have performed well for the most part, which has grown their PE allocations perhaps double where they want to be.

Also, there's been a huge expansion in people starting VC/PE funds, raising more money & on quicker time scales.

More funds getting bigger raising faster.

The top players in the asset class has been performing, so they've gotten away with it, even though LPs were over-allocated

So, imagine in a recession where stock market drops significantly.

Liquid part of the portfolio shrinks.

Illiquid part of the portfolio rises accordingly.

The illiquid part was too big to begin with!

And since liquid part down, that means PE valuations drop too.

So the illiquid part isn't going to have the returns they thought.

But the marks on illiquid assets arrive a lot later than public stock prices.

So now they're significantly more allocated to the alternative assets portion of their portfolio (PE/VC)

What do they do?

Rebalance their portfolios.

So it looks like less PE/VC as a result.

And these are the endowments, the professional LPs.

What about the new LPs, who bought in at the top into new funds with no track records?

Yep. It's harder for new funds trying to get off the ground now. FIN