COVID-19 has changed the world as we know it. In our own lives and industries, we’ve all been affected in different ways. As investors juggle a volatile market against recessions and government interventions, we’re exploring how different managers are responding.
For our latest Webinar, we spoke to Johannes Huth, Managing Director of global investment firm KKR. We asked him about how the European private markets have been holding up against the stresses of COVID-19 and how his firm has been navigating the storm strategically.
A new burst of investments for KKR
Huth has been with KKR since 1999 and remembers the lessons of 2008 well. In the webinar, he touched on how they reacted differently this time around. “When we looked back at how we behaved in 2007 and 2008, we saw that we spent all of our time fixing our portfolio and we didn't make many new investments”, explains Huth. “So, the middle of April, the senior management of the firm got together. And we said, let's not make this mistake again.” The group decided to take advantage of the dislocation and pick up some well-researched bargains.
“We’ve invested significant amounts of capital… probably double what we invested last year”, elaborates Huth. “As you can see, almost USD 30 billion globally, during the crisis period”.
Business borrowing
Within the public market, KKR initially allocated significant sums towards dislocated credit & equity, around US$9 billion so far this year. Given the number of businesses that need cash to get back on their feet after the crisis, it’s easy to see how this could be a smart move.
Private Markets
KKR transitioned with the opportunity set and invested an impressive US$16 billion in the private market. Their acquisitions pursued stable, cash-flowing businesses and high-conviction themes in the digital space. Their sourcing has been through primary transactions and family-owned business rather than secondary transactions (buying business from other private equity firms).
Huth emphasised that investment managers should consider that today’s business earnings are likely to be lower than next year’s. “So, most of the businesses that we bought, we bought on a significant reduced EBITDA (earnings before interest, tax, depreciation and amortization expenses),” he elaborates. “And so, when we look at it, we're looking at saying, okay, we cannot take the earnings of 2020 because that's been affected by COVID. Businesses were shut effectively for three, four months”.
Predicting the unpredictable in Europe
Government responses
Governments have slowed the sharp impact of the pandemics. But sooner or later, funds begin to run out, and cracks could appear. “Government has put a huge amount of money into the market,” Huth continues. “There's been significant quantitative easing. We've had all kinds of schemes to try to stimulate the economy. So right now, we basically have two influences. We have what we're seeing in the real economy, which is potentially significant unemployment. And on the other hand, we've seen significant liquidity and sorted in the system. And it's difficult to see right now, which of those will win.”
European Politics
Huth warns that the upcoming elections and European Union (EU) plans could influence the markets much as the COVID-19 pandemic did. “The €750 billion Next Generation EU fund is really a significant change in Europe… It's a significant step in the direction of fiscal integration,” he explains. “We have 2021 elections coming up… So, if we look at it from a sort of macro perspective, there are some issues in Europe that we shouldn’t forget about.”
Trump’s influence in Europe could also impact private markets, as Huth explains, “Don't forget what Donald Trump has been trying to do in Europe. He's been trying to lean on Europe by using trade as a tool that's important for Europe. And there is a risk that Europe gets caught between China and the United States and the trade war that we're currently having.”
How has COVID-19 impacted the markets so far?
For Huth, COVID-19 has attacked market sectors rather than geographies, especially the hospitality and customer service industries. From his own company holdings, he told us about some of his best and worst performers over the past months.
Bad news for hospitality and travel
“We have a business that's in the travel sector, and for that sector there's been no business. People haven't been able to travel,” Huth explains. He spoke of theme parks in Spain and hotels in France which had suffered exponentially since the lockdown due to decreased tourism—especially from the United Kingdom. The Barcelona-based theme park operates at just 20% capacity, as people are nervous about venturing out. According to Huth, the focus has shifted from luxuries to necessities. He estimates that the tourism industry may start to emerge next year, but it’s too soon to tell.
Good news for consumer staples and accounting support
Conversely, there have been a few surprise leaders too, as customers move away from experiential spending towards consumer staples. For example, one KKR company, a margarine producer exceeded expectations this year, as has one of their home hair-care ventures.
Another industry which has surged has been tax return support. According to Huth, one such business that KKR manages in Germany has rocketed 20% ahead of budget. Across the board, we’re seeing a rise in demand in the number of businesses who need professional support to access much-needed liquidity. This could be partly why KKR have invested so heavily in trade credit and alterative lending over the past months.
Business bounce backs
“Government cash injections have given consumers confidence,” reassures Huth. “And that’s sped up the business come-backs.” Some businesses are bouncing back from the gloomy downward trajectories we were anticipating. They’re making L-shaped and V-shaped recoveries across their performances charts. Telecommunications and healthcare are two such sectors which dipped and surged.
New opportunities are emerging
For Huth, the world is changing, and he sees a new virtual way of working. Investing in video communication platforms rather than offices is the way forward for KKR. “Our teams are not really focused on offices anymore now, but in logistics,” he elaborates. “I do think things will change. People will be in the office, say, three days a week, and work one or two from home. And that will have an impact on the industry. These teams will no longer be sitting in Canary Wharf. They can sit in Krakow or somewhere else.”
While Huth can’t rule out that technology could face another bubble like the 1990s dot.com, he feels confident that this is a clear way forward for investors. “Tech-focused funds have made some really good investments. Right now, there’s a lot of liquidity in the market,” he reveals.
Another burgeoning new investment landscape is the rise of environmental, social, governance (ESG) investing. Its growth has already been record-breaking over the past months, especially in Europe. According to Huth, this could be just the beginning. “The green deal is a big deal,” he explains. “It’s not going to go away. For sure, we’ll have this for at least five years. They’re changing legislation to really drive this. It will be a significant driver of what we’re going to do in the future.”
Key takeaways
Here are some key takeaway points from the webinar:
✓ Investors should not stop investing during this period
✓ Covid-19 will have a fundamental impact on certain sectors
✓ We’re likely to see mass unemployment as government furlough schemes dry up
✓ Government intervention with liquidity could carry the market to some extent until the world finds a vaccine
The upcoming European elections, Next Generation EU Fund and ongoing trade war between the US and China will influence the markets.
Talking to Johannes Huth was refreshingly honest and undeniably interesting. We thank him for his valuable time and insights and we are proud to be a long-standing partner with KKR.