The EconomistFebruary 3rd 2018 Finance and economics 63Private equityBarbarians inside the gate
T
HE financial crisis a decade ago
brought the glory days of private
equity to a screeching halt. The debt-
fuelled megadeals on which the industry
had built its fame (or notoriety) seemed
over. But on January 30th a group of
investors led by Blackstone, the world’s
largest private-equity firm, announced a
$17bn deal to carve out Thomson Reuters’
financial and riskbusiness(F&R), a fi-
nancial-data provider. The deal would be
Blackstone’s largest since the crisis. But if
the megadeal is making a comeback, it is
in a new guise.
In the mid-2000s, huge transactions
abounded. Deals from 2006 and 2007
alone account for nine of the ten largest
ever. But, looking purely at value, the
only true drought in big deals was from
2008-12. Every year since 2013 has seen at
least one buy-out of more than $10bn,
according to the private-equity database
of Thomson ReutersF&R itself.
But in many of these deals private-
equity firms have taken the unfamiliar
role of companions to corporate acquir-
ers. In a $23.5bn deal in 2013 to acquire
Heinz, Berkshire Hathaway, a conglomer-
ate, split ownership equally with 3G
Capital, a Brazilian private-equity firm.
Even private-equityled acquisitions are
today much more likely to involve insti-
tutional investors or corporations, rather
than other private-equity firms. Theconsortium that Bain Capital cobbled
together last year to buy Toshiba’s chip-
making unit, in a ¥2tn ($18bn) deal, in-
volved half a dozen technology firms,
including Apple and Dell.
The new deal is part of this trend.
Blackstone’s partners include GIC, a
Singaporean sovereign-wealth fund, and
the Canada Pension Plan Investment
Board, that country’s largest pension
fund and an avid direct investor in its
own right. Thomson Reuters is retaining
fully 45% of ownership in the carved-out
entity, a rare arrangement before the
crisis, but increasingly common now.
Blackstone may nonetheless bring
certain hard-to-replicate advantages.
Given its heft on Wall Street, for example,
it may be better placed than other in-
vestors to cajole big banks to switch to
Thomson Reuters’s financial-data service
from the competing, ubiquitous Bloom-
berg terminals.
If megadeals do become more com-
mon, it may be for a prosaic reason: too
much money chasingtoo few opportuni-
ties. Private-equity funds are sitting on
$970bn in “dry powder”, or cash yet to be
invested, according to Preqin, a data
provider. Facing pressure to produce
attractive returns for their investors,
private-equity firms may find the new era
of megadeals both less racy and more
desperate than the previous one.How private-equity megadeals have changed since the crisisT
HESE are bright days in the euro area.
Preliminary figures say that the curren-
cy zone’sGDPgrew by 2.5% last year, the
fastest since 2007. But many of the fault-
lines in the zone’s financial system, as re-
vealed by the financial crisis, remain. A
proposal published on January 29th by a
group reporting to the European Systemic
Risk Board, a prudential supervisor, may
mend one of the more troubling flaws.
Euro-area banks favour their home
countries’ debt. A sample of 76 lenders ex-
amined by supervisors last year had expo-
sures of €1.7trn ($1.9trn) to euro-area gov-
ernments, ofwhich €1.1trn was lent to their
home states. That exceeded the banks’common equity tier-1capital, their cushion
against losses, of €1trn. The fortunes of
states and banks are thus bound in a
“doom loop”. Suppose an economic shock
raises the risk of a sovereign default. Banks’
balance-sheets start to crumble. They need
propping up bythe already wobbly state.
And as they cut lending, the real economy
weakens, worsening the fiscal woe. That,
more or less, is what happened in the
zone’s sovereign-debt crisis.
One way of breaking the loop is for
euro-area governmentsto issue or guaran-
tee bonds jointly. But that runs the risk that
the prudent pay forthe profligate. This
week’s proposal—for a new asset, sover-
eign-bond-backed securities (SBBS)—both
leaves states responsible fortheir own
debts and encourages banks to diversify
sovereign risk. Issuers of SBBS, which
could be public- or private-sector entities,
would buy euro-area government bonds
at market prices, and repackage them. Buy-
ers ofSBBSwould be paid interest and
principal (and be exposed to default) as if
they owned the underlying bonds.SBBS would be divided into three
tranches. Buyers of the lowest slice, mak-
ing up 10% of the total value, would suffer
the first loss in a default. The top layer, ac-
counting for 70%, would be about as safe as
German government bonds, says the
group’s report. In seniorSBBSbanks would
thus have a low-risk asset that would diver-
sify their exposure across the whole zone.
The doom loop would be broken.
To g e t SBBSgoing, regulation would
have to change. Capital rules treat govern-
ment bonds as risk-free, so that banks need
hold no equity against them, but senior
SBBSwould incur a charge, though in fact
they are no riskier. And as things stand, the
European Central Bank (ECB) could not ac-
ceptSBBSas collateral. The European Com-
mission is due to propose helpful changes
in the law in the first quarter of this year.
One possible worry isthat, if success-
ful, SBBSmay cause liquidity for some
sovereign bonds to dry up. Bonds bought
bySBBSissuers would in effect be “frozen”
on their balance-sheets. On the other
hand, SBBScould actually make sovereign-
bond markets more liquid by providing al-
ternative means of collateral, hedging and
arbitrage. Judging by the ECB’s quantita-
tive-easing programme, under which the
central bank has amassed €1.7trn of na-
tional debt, the report reckons that any
freezing effects would be limited, at least
for an SBBSmarket of similar size.
SBBSare an ingenious way of strength-
ening the euro area’s financial structure.
But more needs doing. Another recent re-
port, by a team of French and German
economists, listssix proposalsto stabilise
the system and encourage macroeconom-
ic prudence. A new safe asset is just one,
alongside common deposit-insurance, re-
vised fiscal rules, and more. There is lots to
do. Best to start before trouble returns. 7A safe asset for the euro areaBreaking the
doom loop
A proposal to end banks’ dangerous
reliance on domestic sovereign bonds