KKR: Where The Most Successful Funds Are Investing (Part III)

Editor’s Note: Paying attention to what Private Equity funds are doing at any given point in time is a sure way to supercharge your returns. It’s where you’ll find valuable insights into what assets and sectors may be underpriced and set for substantial long-term returns.

This is the final (Part III) of the series, “Where The Most Successful Funds are Investing” – my latest research on where Wall Street’s elite are deploying their capital. To check out Part I & Part II, go here:

KKR has made it pretty easy for us to know what they are thinking about markets right now…

They not only recently released earnings and had a conference call to discuss what’s going on at the company, they also released their latest macro forecast from strategist Henry McVey.

As usual, McVey lays out the case for what the firm thinks will happen in the economy and the market. He also lays out exactly what he thinks we should be buying.

Let’s get to it.

Insights From KKR’s Latest Earnings Call

Before we jump into McVey’s report, let’s look at the KKR executives’ comments from their most recent earnings call.

The firm pointed out that:

  • About 40% of KKR’s Private Equity investments have been in companies with tech and digital exposure. They continue to deploy cash in tech oriented businesses, and this was made apparent through the following deals:
    • In Mid-April KKR announced that they had closed an investment in Ensono, a leading hybrid IT services provider.
    • They are said to be close to announcing an investment in MetroNet Fiber Inc., a fiber optics company.
    • They also invested in Box Inc. (BOX), a leading cloud content management platform.
  • Outside of tech, KKR recently announced the acquisition of Natural Pet Food Group, a New Zealand-based premium pet food company. (People are spending enormous amounts of money on their pets and this company is likely to be a huge beneficiary of that trend.)

KKR continues to make backdoor investments in e-commerce by snapping up industrial real estate and warehouse space. This investment theme correlates to what Blackstone (BX), as discussed in Part I of this series, is looking into as well. Their real estate fund, KKR Real Estate Finance Trust, recently acquired a 178,400 square foot industrial property in Tampa, Florida.

It’s worth noting that KKR has also been very active in the IPO markets with several of their tech and cybersecurity companies coming to market in recent weeks. As always, I’ll be the first to tell you if one of these assets is worth our time.

If one of these companies end up falling below their IPO price, it may give us a bargain opportunity to invest alongside KKR, so I’ll be monitoring the situation closely.

More 13F filings are due at the SEC over the next 10 days or so, which will enable us to see what they have been buying and add some of those names to our portfolio.

Economic Outlooks From McVey

Turning to the report from Henry McVey and the macro team at KKR, they continue to look for accelerating growth in the United States.

The team is raising their estimates for the S&P 500 but that’s not necessarily good news for stock investors. The macro teams point out that:

“At 26.8x trailing earnings, the S&P 500 is 70% above its historic average of 15.8x. Given our out-year forecast for interest rates, we think the trailing P/E could de-rate by about 29% to 19.0x in 2025.”

Because of sharp multiple compression they expect 5 year forward returns for large cap US stocks to be about 3.5% annually.

…But that’s only if everything goes right.

Disruption to growth expectations or geopolitical unrest could make those returns even worse.

Smaller stocks should do better with 5 year projected annual returns of almost 6%. KKR likes the lower multiples found in emerging markets and points out that these markets are much more technology focused than in the past, which deserves a higher multiple.

In ordinary times, this would suggest a higher allocation to emerging markets but the wild card right now is the coronavirus. There is a wave of new cases in Asia, Latin America, Africa and the Middle East. India is on the verge of a crisis as cases there escalate and hospitals are overrun.

Obviously, if the virus continues to overrun emerging countries, then economic recovery will continue to be delayed.

If we don’t quickly get past this virus, bond returns will be even worse as well.

According to the KKR macro team, the US 10-year return will be about even over the next five years, while high yield bonds are projected to be less than 2% annually.

What You Should Do With Your Cash

Private Equity is likely to outperform public equity for the next five years…

And while most of us don’t have the $10 million needed to invest into a PE fund for the next several years… we can make choices influenced by these PE firms.

First and foremost, we can buy stocks that KKR is buying with an emphasis on technology.  

As KKR has been doing in their PE funds, we will focus on strong consumer trends. KKR also thinks that in a low-rate world, private credit and income-producing assets will generate high returns such as REITs and BDCs.

McVey and his team sum up their current world view saying:

“We are likely entering a new, more challenging period for expected returns. Equity multiples are high and credit spreads are tight at a time when input costs could degrade margins more than some investors now think.”

I agree.

That said, to succeed as an investor today, I strongly believe we are going to have to learn to love the down.

Until we actually have a bad market, right now I’m urging investors to focus on stocks that you would be happy to double down in a crash. I also suggest focusing on special situations (i.e. merger arbitrage, discounts to NAV, proxy fights, etc.) that present a profit opportunity no matter what the markets are doing.

When we do get a bad market with falling prices, the way to make an enormous amount of money will be to run out the ‘skull and crossbones’ flag and start pirating from the best bottom feeders.

We want to join with other buyers of last resort and buy the highest quality assets and businesses at bargain-basement prices.

Fortunately, thanks to years of studying markets and investment strategies, I know who those players are at any given moment in time and I will be the first to share their ideas directly with you.