2021 Knowledge Brokers

Michelle Davidson

Michelle Davidson has more than 34 years of financial services experience, with over 29 years focused exclusively on private equity. She oversees Aksia’s North America Advisory team alongside Matt Mullarkey.

In that role, she works with clients to develop program governance, provide strategy allocation and portfolio construction advice, and support the ongoing management of their alternative investment programs. Davidson has extensive experience in all aspects of private market investments, including portfolio management, strategic program development, and as a member of various partnership-advisory committees.

Prior to Aksia’s acquisition of TorreyCove Capital Partners, Davidson was a co-founder of that firm, where she worked in a similar capacity and managed its client advisory activities. Before that, she was a managing director at Pacific Corporate Group. During her 12-year tenure, she was strategically involved in the construction of the California Public Employees’ Retirement System (CalPERS)’s first private equity program, including both partnership and direct investments, and she represented Pacific Corporate Group on the Private Equity Steering Committee for the United Nations Principles for Responsible Investment (PRI).

Davidson graduated with honors from San Diego State University with a bachelor of science in business administration and finance, and she holds a master’s degree from the Sloan School of Management at the Massachusetts Institute of Technology. She has also earned the Chartered Alternative Investment Analyst (CAIA) designation.

CIO: What new qualities do you look for in a manager/service provider given the pandemic’s financial and economic impacts?

Davidson: While not necessarily new, now more than ever, managers need to have an identifiable edge, whether that be in the form of specialization or capabilities in deal-sourcing, operational improvements, and value-add. We have seen quite a bit of commoditization among managers, and the pandemic created a flight-to-quality with increasing demand for companies that came through with stable growth, recurring revenue streams, mission-critical products or services, or that offered consolidation opportunities. With heavy competition for these types of opportunities, we put a premium on managers that have an ability to outperform despite a high-priced environment. Often, this has taken the form of industry specialization, which, in our view, can help managers gain an edge in underwriting credit deals, or, for equity, in deal-sourcing, sector knowledge and operational expertise, access to quality management teams, acquisition targets, and the strategics that can serve as an ultimate exit source.

The pandemic accelerated in a seismic way many technological shifts that were already occurring, and so we are focusing on managers that have the skills to correctly identify and exploit growth opportunities and the drive toward digitalization and process automation, as well as artificial intelligence (AI) and machine-learning. New or emerging managers can provide differentiated deal flow and expertise and have the potential to offer attractive returns along with better alignment given typically smaller fund sizes and the ability to garner anchor terms for early investors. Lastly, while the large amounts of federal stimulus staved off much of the distress that was expected in the aftermath of the pandemic, certain hard-hit industries may present opportunities over an extended period. Managers that have proven operational turnaround or restructuring capabilities are especially interesting to us. 

CIO: What changes are you making to your asset allocation advice?

Davidson: At Aksia, our focus is on alternatives, so I will focus my comments there, and particularly on private markets, given their continued investor interest. The challenge within private markets is, like every other asset class, nothing is cheap. In this high-multiple environment, driven by capital inflows and the flight to quality, backing the right manager and investing in the right strategy becomes more important than ever. While you can’t time the private markets, you can make shifts in your strategy allocations to capitalize on the opportunity set over the next 12 to 18 months. Each investor has its own set of goals and objectives and existing portfolio to factor in, but, generally, we have been advocating for an increased focus on special situation opportunities, such as earlier stage venture to capitalize on growth trends, but where valuations aren’t quite as high as late stage; specialized managers that focus on health care or technology, among a few other areas; and niche opportunities that may introduce less competitive dynamics or less correlated investments.

For private debt, the illiquidity premium on senior private debt remains acceptable and we are seeing a modest tick upward in yield in some private-lending sectors (unlike in traded debt, where real yields hit an all-time low), along with some improvements in documentation and often more conservative capital structures. The pandemic had some observers declaring the asset class would unravel in epic fashion, but private debt turned out to be fairly resilient. That being said, not all deals are created equal and the problematic ones with weaker capital structures or in more severely impacted industries may still suffer, especially if the economy weakens. That is one reason special situation strategies are an area of focus with the opportunity set currently including non-corporate sectors, smaller corporates in need of liquidity, and non-US credits. Opportunistic strategies that allow managers to present flexible capital solutions to stressed borrowers and the ability to quickly pivot as opportunities change are key. Here, too, specialization matters, which can mean having in-house specialists that have expertise in technical or specialized sectors —such as tech, health care, retail, etc.—can be an advantage.

I personally like strategies within private equity that have commonality in capturing distressed opportunities, with a focus on control investments where a manager can affect operational turnarounds rather than purely financial restructuring. Also similar is a targeted allocation to funds led by managers skilled in pursuing both traditional buyouts and special situations based on the opportunity set. While growth strategies don’t always come to top of mind in a pandemic, a look at the past financial crisis demonstrated that many now-dominant companies were born in the period during and immediately after the great financial crisis. There tends to be less capital deployed in weaker, copy-cat companies all pursuing a similar market, and the stronger companies that survive continue to receive funding for further growth. Given high valuations, we favor investing in earlier stages, or executing through a manager that offers both an earlier-stage strategy and a later-stage growth strategy to see companies through more of their growth without having to pay up as much.

Lastly, we continue to be active in implementing co-investment allocations. With better economics—often no fee or carry—co-investments can serve to enhance returns and allow for more tailored exposures, and often quicker deployment of capital when an investor needs to ramp up asset class exposure.

 CIO: What do you think will be the biggest innovation in your industry in the next 10 years?

Davidson: Within alternative investments, some of the trends we are seeing on the investment side will also impact investor processes—primarily driven by data and technology. This will include more efficient ways to source opportunities across digital platforms and leveraging tools to analyze vast amounts of data to make better-informed decisions. However, I think the biggest innovation will be around finding ways to efficiently capture the massive streams of non-standard data required to track private markets. It’s difficult to get all investors on the same page of what data to collect. Rather than be forced to try to collaborate on what data points are needed, I think we will be increasingly using AI tools and other technology to read and interpret PDF reports and financial statements. The information can then flow seamlessly into systems with less interactions other than quality checks. Such technology will reduce the time-intensity and labor required to track private market investments.

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