Part 3: The Case for Private Investing - Nicola Wealth

Part 3: The Case for Private Investing


Virtually everyone with exposure to public equities has had a fabulous 12 months. “For the last year the markets have been on a tear,” Nicola Wealth chairman and CEO John Nicola said in his address to the firm’s 2021 Strategic Outlook. That caps a decade of mostly generous returns.

The sobering downside to that stellar performance, attendees of the virtual conference heard, is the likelihood of paltry returns going forward, based on asset values’ history of reverting to the mean. Nicola cited a survey of top investment management firms wherein the consensus projection was for a 3.14 percent annualized return for U.S. stocks over the coming decade, and just 1.33 percent for bonds. Factor in fees and inflation, and the holder of a traditional portfolio composed of 60 percent equities and 40 percent fixed income can look forward to an average annual return of just 1.28 percent.

Likewise in Canada, big pension managers like Alberta Investment Management Corp. are forecasting sub-5% returns across their portfolios over the next 10 years.

There’s a very big shift they’re expecting on a go-forward basis,” Nicola warned.

Fortunately for Nicola Wealth clients, the firm decided more than 15 years ago to expand their investable universe beyond the public markets into hard assets and private equity. These have the potential to simultaneously improve returns over those expected in the public realm and to better manage risk through asset diversification.

In the roller-coaster year that was 2020, for example, Nicola’s Core Portfolio Fund outperformed Morningstar’s 60/40 Canadian balanced index on both the downside and the upside. It fell just 5.7 percent from January 1 to the market bottom on March 23, 2020 (the Morningstar benchmark dropped 10.8 percent) and returned a positive 7.5 percent by year-end, compared to 5.8% for the benchmark.

But the news is still better on the private investment side. Nicola’s Canadian real estate income pool has enjoyed a return of 8.9 per cent per year over the past 10 years; its U.S.-focused counterpart has returned 11.2 percent. These notably beat the performance of publicly traded real estate investment trusts (REITs) in both countries while demonstrating lower volatility.

Nicola noted one important caveat looking ahead: “Coronavirus is going to have some impact on real estate.” Will workers return to offices? Will consumers go back to shopping malls? Surveys by the likes of CBRE and Robert Half indicate most people still want to go to a workplace at least part of the time, but it’s fair to say the demand for commercial real estate will not fully recover in the foreseeable future.

But there are still asset classes offering better risk-adjusted returns than private real estate, Nicola said. The best performers in a study covering the years 1984 to 2015 turned out to be buyout funds (essentially private equity) and venture capital. Separate research from BlackRock, the world’s largest asset manager, shows there was no decade since 1980 when public equity outperformed private equity.

The Nicola Private Equity LP, which has been around nine years and holds assets worth $460 million, boasts a five-year return of 10.5 percent. Nicola Wealth does not currently have a venture capital offer but plans to introduce one later this year.

One sector the firm sees leading a sea change in the economy is clean technology, especially in energy. “The big thing you’re looking at here is the reduction in the cost of renewable energy, both solar and wind,” Nicola said. “It’s not only cleaner [than fossil fuels], it’s cheaper and it’s massively disruptive.” The unfolding battle between the fossil fuel and renewable energy sectors may in the future turn out like Blockbuster versus Netflix, he suggested. Should new technology provide the opportunity for energy-importing countries to stop sending billions of dollars to foreign suppliers, they will seize it.

To take advantage of this secular shift, Nicola Wealth launched its Sustainable Innovation Fund in 2019, invested in mostly public equities in the areas of renewable energy, innovative transportation, cleantech, water infrastructure and green bonds. Already from inception, the fund has returned 59 percent, though it’s worth noting it is down 8 percent year to date. As one of Nicola Wealth’s most volatile offerings, it’s best approached using dollar-cost averaging — regular rather than lump-sum contributions that reduce the risk of losing principal in market swings.

These alternative asset allocations all represent ways Nicola Wealth clients can overcome the dire forecasts for publicly traded securities in the medium term and continue to meet their investment goals. To conclude his presentation, Nicola turned to the rapidly changing outlook for taxes and public debt, the subject of the next and final instalment in this series, coming soon.

Watch the full 2021 Strategic Outlook event on April 28 here.
This material contains the current opinions of the author and such opinions are subject to change without notice. This material is distributed for informational purposes only. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. All investments contain risk and may gain or lose value. Please speak to your Nicola Wealth advisor for advice based on your unique circumstances. Nicola Wealth is registered as a Portfolio Manager, Exempt Market Dealer and Investment Fund Manager with the required provincial securities’ commissions.