Momentum in private markets shifts away from PE to real assets and debt

ETF infrastructure and support systems flourish

Nick Evans writes that Q2 2022 private markets analysis by alternative assets data provider Preqin reveals steep declines in private equity, sharp rises in infrastructure and natural resources, strong growth in private debt, and growing signs of slowdowns in real estate and venture capital as global investors react to the recent market sell-offs and the changed macro-economic environment.

 

Preqin’s Q2 2022 Private Equity Report shows private equity fundraising and deal activity falling fast – with total capital raised in the quarter of USD119 billion representing a drop of more than 50 per cent compared to the same quarter last year, PE deal value falling by 44 per cent year-on-year to USD131.2 billion and exit value tumbling by almost 52 per cent on a year-by-year basis to USD150.7 billion.

 

“The virtuous circle that has been driving private equity returns higher over the last several years is at risk of unwinding,” said Preqin.” Higher financing costs and the underperformance of technology in the new macro-economic environment may make it more challenging for private equity to continue its outperformance of public equity markets. Having said that, shorter term performance will appear more insulated from the market turmoil.”

 

With the exit environment expected to continue to weaken, the firm added that PE fund lives are expected to extend going forward as distributions continue to slow – with continuation vehicles continuing to prove attractive to GPs given the flexibility they provide.

 

Preqin analysts also anticipate an increase in appetite for private equity secondaries investment as some LPs look to manage allocations and increase the supply of fund interests available in the market, potentially at discounts to net asset values.

 

While traditional corporate private equity is showing intensifying signs of strain, other alternative asset classes are thriving – notably infrastructure and natural resources – as investors shift allocations to areas that offer protection amid inflation and rising rates.

 

Preqin’s Q2 2022 Infrastructure Report highlights what the firm describes as the “fundraising furore” in the asset class – with some USD50 billion in aggregate capital being raised by just 15 infrastructure funds in the quarter.

 

“Frantic fundraising has seen the infrastructure asset class secure a year’s worth of capital in just six months, as investors flock to the asset class,” said the firm. “As global energy markets continue to grapple with high oil prices, and Europe tries to break its reliance on Russian hydrocarbons, the private infrastructure asset class is experiencing an ongoing fundraising furore.”

 

The natural resources space is also booming – with the USD51 billon in new capital raised by fund closures in the asset class in Q2 2022 representing growth of more than 65 per cent over Q2 2021 and coming in at only slightly less than the record USD60 billion raised in Q1 2022. Nearly all of the Q2 capital – USD50.5 billion – was raised by energy funds, with the balance allocated to agriculture and farmland funds.

 

“Geopolitical risks and supply disruptions caused by the Russian invasion of Ukraine are likely to have a long-lasting impact on the broader commodities markets, and the current supply deficit, particularly in energy markets, is likely to last for years,” said Preqin. “This presents natural resources funds and investors with an exceptional opportunity to ride this super-cycle more confidently than previous ones.”

 

Meanwhile, the strong growth in private debt continues apace – with fundraising in the first half of 2022 continuing the record-breaking pace of activity in 2021. According to Preqin, almost USD100 billion of new capital has been raised so far this year, broadly in line with the all-time high of USD213 billion that was raised by private debt funds last year.

 

With demand for private debt funding from private equity sponsors and other borrowers growing rapidly as a result of the contraction in bank lending and public bond markets, and with investors looking for the relatively dependable returns on offer from private debt, the asset class looks likely to see strong continued growth – both in direct lending funds, and also in more opportunistic and cyclical strategies such as special situations and distressed debt.

 

“With extreme volatility across bond and equity markets continuing to dominate headlines, we expect investor appetite for safer investments such as direct lending, will continue to grow,” said the firm’s analysts. “Fundraising is steadily growing, and we have seen prominent funds successfully closing over the quarter. We expect this to continue for the remainder of the year, and we may see a pick-up in interest in distressed debt opportunities if investors sense the economic cycle is turning.”

 

In the global real estate market, by contrast, Preqin’s latest data show that 2022 is proving to be far more turbulent than many initially expected – with the amount of capital raised by real estate funds in Q2 2022 falling by 32 per cent from the first quarter of the year, and with the impact of rising interest rates stopping the sector’s post-pandemic recovery in its tracks.

 

“Real estate was among the worst-hit asset classes during the pandemic and the subsequent upturn. It took several quarters for activity to hit previous levels and it is looking likely that rising rates could put a halt to that short-lived recovery,” said Preqin.

 

Dave Lowery, senior vice president and head of research insights at Preqin, added: “Rising interest rates could be the nemesis for real estate, after having avoided a Covid crash. Early signs of recovery are becoming a fading memory. There is pressure on the market from multiple fronts, leading to lower valuations, a rise in the cost of debt and likely weaker returns.”

 

Pressure is also mounting in the venture capital space, according to the last of Preqin’s set of Q2 2022 individual private markets asset class reports – with the firm’s analysts saying that a relatively solid performance in the first half of the year in VC masks the potential for a weaker second half as the sector enters a more pronounced slowdown.

 

According to Preqin’s stats, the number of VC funds closed in Q2 2022 was down by 56 per cent compared with the same period last year – while the number of global IPO exits was down by 65 per cent on a year-on-year basis.

 

“With global markets experiencing a huge amount of turmoil during 2022, venture capital could be the private capital asset class most exposed,” said the firm. “Concerns over start-ups’ high cash burn rate and limited exit options caused by the global equity sell-off are extending funds’ holding periods and slowing capital distributions.”

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