How unicorn IPO meltdowns, private-market struggles could hurt stocks: BofA - Business Insider

Bank of America's global research team says the failure of WeWork and growing scrutiny of private companies could ultimately hammer the public stock market.The theory is that pension funds — which are putting an increasing amount of money into private companies — might have to mark down those investments and then sell stocks to free up cash.Private equity has become a bigger and bigger part of the investing world in recent years and it's not clear what will happen to it in a major downturn.It's just the latest question about what the struggles of WeWork and other unicorns means for markets.Click here for more BI Prime stories.After its spectacular blowup, coworking-space company WeWork might have a big influence on the stock market in 2020 — even though its own effort to go public is on life support.Bank of America Global Research says the S&P 500 faces some risks investors aren't appreciating, and they might cause greater volatility and losses for stocks in the new year. That upheaval is connected to WeWork's failed attempt to go public.The theory suggests that WeWork's failure might throw cold water on the IPO market as investors hesitate to put their money in companies that aren't profitable. They might also conclude the investments they've made are worth less than they thought.That could become an especially big problem if pension funds — some of the biggest investors in the world — start marking down the value of their investments in private companies. In the event of a market downturn, there might be a wave of stock selling by those pension funds.“We are concerned that if private equity assets are marked down, pension funds may be forced sellers of the most liquid assets, which primarily reside in passive exposure to the S&P 500,” Savita Subramanian, BofA's head of US equity and quantitative strategy, wrote in the client note.She continued: “As with most liquidity shocks, everything feels fine until a stress scenario emerges.”Pension funds have long owned enormous amounts of stock, but in the past decade-plus, they've become major investors in private companies. BofA says that today, pension funds have 24% of their money in private equity funds, up from 8% in 2006.And that money is often committed long-term, meaning it can't be sold as quickly as stocks can. That means that if those pension funds want to free up cash after the value of their private investments starts to fall, they'll likely sell stocks instead.“Private equity has been relatively untested for an environment of normal hurdle rates or an increasing cost of capital,” the research team wrote in a note to clients.It's just the latest examination of the WeWork wreckage and how the pain for many of its unicorn peers has affected the market. To some experts, some of those former high-flyers have become bargains as their stock prices have fallen to Earth.Other experts say buying any newly-public company can make for a rough ride, and they advise clients to stay away for that first post-IPO year, at least.And while there are longtime pros who say WeWork is a sign of frightening problems in the market, others believe that the scrutiny of these unicorns will ultimately be a good thing for the market and helps prove stocks aren't a bubble.