Billions in Capital Calls Threaten to Wreak Havoc on Global Stocks, Bonds

(Bloomberg) - The private market is coming to collect -- and it threatens to wreak havoc across global stocks and bonds.

As financial conditions tighten around the world, private-market funds are demanding that investors stump up more of the cash they pledged during the easy-money days of the pandemic.

While many big pensions and endowments are expected to have sufficient cash flows to meet these capital calls, the fear is that a large number of other investors will have to offload liquid assets to meet the obligations. That would likely mean even deeper losses in public markets for equities and debt, where returns are already down more than 20% this year.

Early signs of trouble are evident in the shrinking distributions that these private-market partnerships are delivering to investors, according to data from the Burgiss Group LLC.

Five of the six private-market fund categories tracked by the research firm registered negative net commitments in the third quarter, meaning investors were required to pour more money into them than came back as returns. Buyout funds saw the largest gap, at minus $7.66 billion, the most since the second quarter of 2020, the data show.

“We see cause for concern,” Burgiss analysts Patrick Warren and Luis O’Shea wrote in a note last month. “Venture capital’s net distributions are now at a multi-decade low, and senior and distressed debt are also calling capital on net.”

Three of the fund types distributed the lowest amount of money to investors in at least seven years.

Capital calls have accelerated this year, in particular for private credit funds, said one senior executive from an institutional investor overseeing more than $50 billion. Portfolios known as trigger funds, which request client capital once certain thresholds are met, have been among the most active in making capital calls, the executive said, requesting anonymity to discuss internal matters.

“It is possible to imagine large institutions engaging in forced selling of liquid public equities to meet capital calls in private-fund investments,” Benn Eifert, founder and chief investment officer at boutique volatility hedge fund QVR Advisors, wrote in his October letter to investors.

Capital calls are not the only problem for investors in private markets. Even their successes are creating headaches.

As many alternative assets outperformed public markets in recent years, institutions have broken past fixed limits on the proportion of their portfolios that can be allocated to private markets.

While this so-called denominator effect may be exaggerated -- because there is a lag in revaluing private assets to reflect the very latest market conditions -- it does have the potential to trigger increased selling at a time when it is least wanted.

And the sums involved could be huge. A significant amount of the easy money pumped into the financial system by central banks during the pandemic found its way into unlisted assets, which grew to $10 trillion globally by September 2021, a fivefold increase from 2007, according to figures from investment data firm Preqin.

“There’s a regime change of sorts in the macro world and in markets that we need to take hold of,” Stephen Klar, president and managing partner of Wellington Management Co., said at the Global Financial Leaders’ Investment Summit in Hong Kong on Nov. 3. “We’re working with our clients on thinking through how to really get that asset allocation back to a more diversified and rebalanced manner.”

By Sofia Horta e Costa and Richard Henderson


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