2020 Economic Year in Review for Private Equity Enthusiasts

2020 was a year like no other in our lifetime. Sadly, the COVID-19 pandemic has wreaked havoc all across the globe, bringing shutdowns, unemployment, and other tremendous challenges that fell particularly hard on small businesses and families. Financially speaking, The Federal Reserve has taken some serious action to combat the virus’s heavy economic toll, as have governments worldwide. Now, as the year concludes, yet another $900 billion USD stimulus package is in the works in the U.S.

Let us take a closer look at this whirlwind of a year.

Riding the Stock Market Roller Coaster

During the country's severe January and February lockdown, China’s plummeting economy foreshadowed what would become a global recession due to the COVID-19 pandemic. Some of us enjoy roller coasters at amusement parks, but 2020’s stock market volatility hasn’t been nearly as fun. Experts and novices alike have speculated about the reasons, but rather than guessing during uncertain times. We are going to present some of this year’s key stock market snapshots instead.

In March, even while many states and countries still had relatively few coronavirus cases, CNN reported that U.S. stocks plunged 27% from their recent record highs. On March 23, the S&P 500 dropped to an intraday low of 2,191.86, CNBC reported. By then, The Federal Reserve had already cut interest rates to near 0. The Fed also began buying bonds, and by May and June, it was adding corporate-bond exchange-traded funds and even individual companies' debts to its buying spree. The Fed’s timely actions kept things moving during a time of so many closures and pauses in business operations.

By the end of September, the future seemed a bit brighter. CNBC reported that the S&P 500 had rallied 50%, and the broader-market index hit an all-time intraday high of 3,588.11 before dropping again. Subsequently, Yahoo Finance noted that autumn brought in optimism over the various COVID-19 vaccines, along with stock market gains that later dropped significantly on December 21. The fall coincided with breaking news of a new UK virus strain and renewed lockdowns in the country. The slump sent shockwaves across global markets even as the value of the U.S. dollar rose.

Job Growth

The second quarter of 2020 ushered in record GDP shrinkage almost four times that of the worst quarter of the Great Recession. Yet, the unemployment rate began falling in June as some industries rebounded. While we’ve seen hopeful signs of recovery, the job growth rate has slowed dramatically as COVID-19 cases continue to spike across the country. NPR reported 245,000 additional U.S. jobs in November, which is fewer than half of the jobs added in October. Adding insult to injury, Americans anticipated an end to emergency unemployment benefits for millions, set to take place soon after Christmas – certainly not something to look forward to during the holiday season.

On December 21, Americans woke up to uplifting news of a $900 billion USD stimulus package, set to include $600 USD stimulus checks to individuals, vaccine distribution funds, supplemented federal unemployment benefits of $300 USD per week, and additional small business funding, as reported by Yahoo Finance. Some families and small business owners breathed a sigh of relief, while others believed that the bill did not go nearly far enough to keep suffering industries afloat.

Introducing the Alternative to Cryptocurrency

In happier, alternative market news, Bitcoin's price reached an intraday record high above $23,000 USD on December 17, surpassing its 2017 high of $20,000 USD, as reported by MarketWatch. Earlier in the year, we also blogged about some exciting new cryptocurrency norms and shifting attitudes. For instance, we discussed some survey findings indicating that many millennials trust Bitcoin over big banks. We learned that Goldman Sachs’s Millennial Fund had performed better than 95% of its peers during the pandemic. These data points are cause for some enthusiasm about the cryptocurrency landscape and outlook.

The World Reacts Economically to COVID-19

The U.S. is only one of many countries using economic measures as tools in their COVID-fighting arsenals. CNBC reported that the European Central Bank’s bond-purchasing program was worth over €1.3 trillion euros at the end of September. Suppose you instead think about the economy in terms of GDP. In that case, it’s important to note that according to Ned Davis Research, as cited by CNBC, Japan’s fiscal response to the pandemic totaled about 42% of its GDP by the end of September, compared to 33% of GDP in France, 21% in Germany, and 13% in the U.S.

Fortunately for some small businesses and a few larger ones, the U.S. government held out another lifeline in the form of the CARES Act’s Paycheck Protection Program. The program offered low-interest loans a rare gift: loan forgiveness for businesses that followed key spending guidelines.

2020 Private Equity Wrap-Up

While many private equity firms and private companies didn’t qualify for loan forgiveness, many could take advantage of other CARES Act provisions. Matthew John McNally, a managing director in the Asset Management Tax practice group in the New York office of True Partners Consulting, LLC., used the liquidity provisions as an example, as cited by Crains New York. He stated that these special rules allowed portfolio companies to take advantage of the expanded Small Business Administration loan program, deferring payroll tax liability, and utilizing certain tax credits.

Businesses ineligible to receive the loans may still qualify for payroll tax credits. Specifically, companies can defer payroll taxes from the date of ratification through the end of the year until the end of 2021 and 2022, as cited by Kitces.com, a firm that offers research, training, and other resources for financial professionals.

The Rise of Blank Check Companies

Do you know how much carbon dioxide emissions have ballooned since the beginning of the Industrial Revolution? Well, 2020’s explosive rise in the growth of a type of blank check company called a Special Purpose Acquisition Company (SPAC) seemed almost as explosive. Here’s a bit of background: blank check companies form for the specific purpose of acquiring other companies. On stock exchanges, blank check companies may be considered “penny stocks” or “microcaps.” Because the growth of SPACs sharply accelerated in Q2, Q3, and Q4 of this year, we believe that the pandemic was a significant driver. While the tech boom continues, and until interest rates begin climbing again, we anticipate ongoing effects of this unique type of growth, despite what some might view as the blank check company’s administrative burden. Notably, when registering for a securities offering, a SPAC may need to follow additional rules, such as depositing most funds in an escrow account until it obtains shareholder approval for an identified acquisition, according to Investor.gov. Investors take heed, however: even with these additional guidelines, investments in SPACs can be perilous, so be sure to do your research.

New SEC Rules Expand Markets with Added Cost Savings

Over three decades had passed, with many private placement market rules remaining mostly the same. Now, new SEC regulations effective December 8 have expanded what it means to be an “accredited investor” and a “qualified institutional buyer.” This affects issuers of Regulation D 506(c) offerings and their investors. Notably, although finding accredited investors is not always easy, many private placement issuers still choose Rule 506(c) because, unlike many other exemptions to SEC registration requirements, this rule allows companies to broadly advertise their offering to the public.

You might ask, what is an accredited investor, anyway? Well, accredited investors must generally meet certain net worth or income thresholds to participate in Rule 506(c) offerings. Please note that with modifications included, some individuals do not need to pass these wealth-based tests anymore. Examples include certain “financially sophisticated” professionals, along with “knowledgeable employees” of venture capital and private equity funds. Furthermore, in another change that might be the best news of the year for some of our clients, issuers of new Rule 506(c) offerings will generally not need to repeat steps to verify the status of their accredited investors next year if the investors were verified within the last five years.

Aside from modifications to accredited investors in Rule 506(c), crowdfunding was a top priority this year. The SEC eased certain crowdfunding restrictions and made other changes that are rippling through the private placement market. For instance, one modification extends the "test-the-waters" provisions to Regulation Crowdfunding issuers. Almost like a free trial, these provisions eliminate a lot of wasted time for issuers who are unsure which exemption to use.

Another change prevents anyone previously out of compliance with certain Regulation A reporting requirements from participating in new Regulation A offerings. While you might view this change as a barrier to Regulation A participation, it is also important for investor protection.

Another welcome modification prohibits bad actors from participating in Regulation 504 offerings while allowing issuers of these offerings to solicit the public, as long as only accredited investors buy-in. These changes were implemented to improve the private placement market’s reputation, which oftentimes has been tarnished by fraudsters in the past.

Looking to the Future with Optimism

Whatever else happens next, count on continued private equity market growth in 2021. Furthermore, with all the recent amendments to Rule 506(c) and other crowdfunding rules, we anticipate that our niche sector will become more diverse and accessible to investors.