Permanent capital grows in importance for managers

Publicly traded alternative investment managers are expanding beyond their original limited partner base of institutional investors, buying insurance companies and expanding into retail.

The recent moves are aimed at increasing assets under management overall as well as boosting the percentage of AUM in so-called permanent capital. Until relatively recently, these permanent capital strategies included long-lived private capital funds and publicly traded vehicles such as business development companies and real estate investment trusts, all of which provide consistent management fees while reducing managers' fundraising costs.

Permanent capital is on the rise among publicly traded private equity firms.

For instance, over the 12 months ended June 30, Apollo Global Management Inc. reported total AUM growth of 33% to $414 billion, 60% of which is in permanent capital vehicles. Most of the permanent capital is from its insurance vehicles, Athene Holding Ltd. in the U.S. and European insurer Athora Holding Ltd., with assets under management of $165.1 billion and $60.2 billion, respectively.

In 2012, Apollo had $25 billion in permanent capital, amounting to 22% of its total AUM.

It's an open question whether these changes help or hurt institutional investors. With managers developing these new relationships, institutional investors could have less clout in negotiating terms when managers have other pools of capital on which to draw, industry experts said. The moves also could increase the potential for conflicts of interest, they added.

One potential conflict could be that public company shareholders tend to focus on asset and revenue growth as well as short-term profits, said David Fann, vice chairman of alternative investment consultant Aksia LLC. Institutional investors, however, focus on long-term risk-adjusted returns.

"One obvious concern is whether the fund manager is raising too many overlapping and competing products vs. focusing on investing and maximizing profits for their existing investment vehicles," he said. For example, if the manager creates similar products for both retail and institutional investors, how are its best investment ideas allocated among vehicles, he said. "Allocation policies and fair treatment for each of the vehicles are a few of the many issues investors need to make sure they understand."

Due diligence is critical but it has become more time intensive, especially as managers' AUM has grown, he said

But managers say that risk is reduced because they make very different investments with each pool of capital. For example, a lower-yielding loan or one with fewer covenants to protect the lender may not fit into a manager's business development company, a publicly traded permanent capital vehicle that tends to attract primarily retail investors. But such a loan could find a home in one of the manager's private credit institutional funds.

The goal, managers add, is to diversify their capital sources and increase AUM to help them win new investments, especially in private credit.

"It seems that the large, publicly traded alternative investment platforms have Warren Buffett envy and want to own an insurance company," Mr. Fann said.

"Permanent capital and a steady income stream from investment management of an insurance company can provide significant benefits including revenue, earnings predictability and potential dividends that shareholders want," Mr. Fann said.

While Apollo Global Management was the first public alternative investment firm to invest in an insurance business as a permanent source of AUM by backing Athene in 2009, other megafirms are catching up.

In July, KKR & Co. Inc. agreed to acquire retirement and life insurance company Global Atlantic Financial Group Ltd., which KKR said would boost its AUM to $279 billion from $207 billion. KKR expects the addition of Global Atlantic will increase its share of permanent capital to 33% from 9%.

A month earlier, The Carlyle Group led a group that acquired 97% of AIG's reinsurance business, Fortitude Group Holdings LLC, for $1.8 billion. Carlyle and a newly created Carlyle fund hold 71.5% of Fortitude, including Carlyle's initial 19.9% stake acquired in 2018.

And in 2019, Ares Management Corp. launched Aspida Financial, a subsidiary that at the time agreed to acquire Pavonia Life Insurance Co. of Michigan with approximately $1.1 billion of assets and approximately $76 million of statutory capital and surplus as of March 31, 2019.

Ares didn't report its permanent capital AUM but reported in its second-quarter earnings that 68% of its AUM has a duration of more than three years and that 35% of management fees were from permanent capital vehicles as of June 30.

Michael Arougheti, president and CEO of Ares Management, said money invested for its various types of clients does not compete for deals. "Private credit, where the bulk of our permanent capital has been focused, started predominantly in our business development company, Ares Capital Corp.," launched in 2004, Mr. Arougheti said.

"We closed our first U.S. institutional commingled private credit fund, Private Credit Solutions, nearly three years ago," he said. Those funds invest in larger second-lien investments in larger companies than Ares' BDC, Mr. Arougheti said.

During second-quarter earnings calls, executives of these mega public firms said that they expected their insurance businesses to be a source of growth and detailed plans to build the businesses by buying other insurance companies and/or additional restructuring of discontinued insurance lines of business.

"And now that we've been able to, with our partners, effectively gain control of Fortitude, we do look forward to growing vis-a-vis acquisition of these types of businesses," said Kewsong Lee, co-CEO and director of Carlyle, during its second-quarter earnings call. "In terms of how do you price these books, very carefully. These are complicated books of business."

These mega alternative investment managers said they are also continuing their push into investment for retail investors as the population ages.

KKR executives said that acquiring Global Atlantic gives the firm exposure to underlying demographic trends.

During the second-quarter earnings call, Scott C. Nuttall, KKR's co-president and chief operating officer, said that retirement and wealth trends globally are a "critical strategic areas of focus" for KKR.

"The retirement end market continues to grow with an aging population creating demographic tailwinds. And importantly, more retirement wealth is being managed by the individuals themselves," Mr. Nuttall said.

KKR has been focusing on areas such as insurance and managing money for retail and high-net-worth investors to gain access to these trends, he said. Global Atlantic sells annuities and life insurance largely to individuals in their 50s and 60s who are managing their own retirement wealth or managing it with the help of a bank, wealth adviser or broker-dealer, he explained.

"So, GA (Global Atlantic) gets us in the way of trends we have been looking for across both insurance and retail," he said. "And as GA grows, KKR grows."