Diversify out of trouble

Private equity got something of a bad name during the credit crunch, and it's still got one now. That's one reason it's possible to buy private-equity focused investment trusts like Standard Life European Private Equity on big discounts to net asset value, even though they've got good performance records.

Pension funds have wised up to this. In a bid to diversify their portfolios away from equities and bonds and so reduce losses and volatility, they've invested heavily; the top 50 funds of private-equity managers have seen an increase in pension fund money from $139bn to $209bn between 2007 and 2010, according to consultants Towers Watson. With uncertainty in Europe again causing choppy markets, it could be the time to spread your risk with some alternative assets.

Private investors cannot directly buy private equity, but you can access it via private equity investment trusts. There are two main types of these: trusts which directly invest in companies, and ones which buy private equity funds (funds of funds). Alan Brierley, director at broker Collins Stewart, favours funds of funds on the grounds that they are lower risk. "They give investors highly diversified exposure - by vintage, type of investment, geography and sector - to the asset class," he says.

Read more on private equity investment trusts

Standard Life European Private Equity is an obvious pick in this sub-sector. Since launch, this trust's net asset value (NAV) total return has outperformed the MSCI Europe Index by an annualised 5 per cent. Around three-quarters of its current portfolio is more than three years old, and so likely to be approaching the realisation stage. Selling investments helps a private-equity fund boost its NAV and reduce its debt.

Yet despite this good outlook, you can still buy its shares at a huge discount of around 26 per cent to NAV - meaning that many analysts rate the trust a buy. If the outperformance of its benchmark continues, it would be reasonable to expect the big discount to start closing.

The trust has also started to make new investments, because its balance sheet is already strong and it anticipates good cashflows ahead from realisations of existing investments.

Standard Life European Private Equity has a strong long-term record, too: over 10 years to 31 March, its annualised NAV growth is 9.5 per cent, against 4.5 per cent for MSCI Europe and 4.2 per cent for the FTSE All-Share. It has also delivered consistent positive returns in 30 out of 36 quarters in the past nine years.

The portfolio holds 37 underlying funds with more than 500 individual holdings, providing a very high level of diversity. Despite its name, the US and UK account for around 46 per cent of its funds, while most of its other funds are based in the healthier parts of northern Europe. Around 78 per cent of Standard Life European Private Equity's assets are euro-denominated, so the trust is also subject to currency fluctuations.

Unlike some funds investing in esoteric assets, it has a relatively low total expense ratio (TER) of just over 1 per cent - in part because it does not charge a performance fee, as some other funds invested in unusual assets do. However, its managers hold founders' shares, which can be converted into ordinary shares if the trust's NAV grows more than 10 per cent over a given period. That would have the effect of reducing NAV per share.

Although private equity is a high-risk asset class, if you have a long-term investment horizon, want to diversify away from traditional assets and are prepared for bouts of volatility, this trust looks like a bargain. Buy.

Read more on Standard Life European Private Equity Trust

Key fund data:

Source: Source: Investors Chronicle, * SL Capital Partners.

Performance data as at 12 July 2011.

TOP 10 UNDERLYING HOLDINGS AS AT 31 March

FUND'S GEOGRAPHICAL BREAKDOWN