Inflation roared to a new four-decade high in June 2022, exceeding estimates with 9.1% year-over-year growth. The stock market is firmly in bear territory, and bond returns are failing to keep pace with inflation.
Private markets have grown exponentially in the last two decades, and today’s public market turmoil is only accelerating the trend. In fact, small- and mid-cap stocks are even leaving the public markets entirely.
Small- and Mid-Cap Firms Are Staying Private
From 1980 to 2000, there was an average of 300 IPOs per year in the United States, down to an average of 100 per year from 2000 to 2017. While the last few years have seen an IPO boom, the impending downturn is set to send IPO numbers once again into decline. Further, an analysis of IPOs since 2013 shows that, on average, businesses are staying private 50% longer.
Companies are leaving the public markets, too. As the Wall Street Journal reports, deals to take public companies private reached a 10-year high in 2021, and take-private deal sizes are on the rise. Household names like Burger King, Panera Bread, and Heinz have all been taken private in recent years, and businesses from Twitter to Tesla may soon follow suit.
One reason for this is that private companies have greater access to capital. According to McKinsey, the private market AUM has grown by $4 trillion in the past decade, an increase of 170 percent. Today, there are over 1,000 unicorns.
Another driver of the shift from public to private markets is the increasing costs of operating a public company. Being public brings more scrutiny and requires more disclosures on company results. Private companies are not subject to the same degree of disclosure, which can help them protect intellectual property, avoid disruptions, and make strategic decisions without worrying about short-term market reactions.
What This Means for Your Investments
The rise of private equity means that more and more opportunities are moving out of the public markets. You will increasingly need to turn to private markets to get exposure to a broad range of small- and mid-cap stocks.
Make no mistake, diversification across market cap segments is important. A company’s market capitalization reflects its stage of development and, therefore, its risk profile. Further, large-cap stocks “tend to comove,” as a Cambridge University report notes. Small-cap stocks present a valuable portfolio diversification tool, as they are less correlated with the broader market.
As we further enter a period of quantitative tightening and interest rate hikes, small- and mid-cap stocks will become even more attractive. Perritt Capital Management analysis shows that in each of six instances of Fed tightening from 1983 to 2015, small-cap returns provided positive average returns during the 12, 18, and 36-month periods following rate hikes.
So, if you’re looking for small-cap stocks with large-cap potential, the private markets are where you’ll increasingly find them. Private markets, however, have long come with high barriers to entry, including high capital minimums, lack of liquidity, and lack of transparency.
This is where Gridline comes in. Gridline is a digital wealth platform that provides a curated selection of professionally managed alternative investment funds and enables access for individual investors and their advisors to gain diversified exposure to non-public assets with lower capital minimums, lower fees, and greater liquidity.
Gridline’s mission is to open up access to top-quartile private market alternative investments, historically only available to sophisticated family offices and endowments — allowing individuals to invest transparently, efficiently, and at lower costs.