Alternative investments have emerged as a crucial point for investors seeking diversification beyond traditional assets like stocks and bonds. This article examines the recent trends shaping the realm of alternative investments specifically within the private equity/credit sector, exploring the 'what' and 'why' behind these evolving patterns. Alternative investments includes a broad spectrum, including private equity, hedge funds, real estate, commodities, and cryptocurrencies. Unlike conventional assets, these alternatives often react differently to market fluctuations, making them valuable tools for risk management. The trends in alternative investments are closely linked to macroeconomic conditions, responding to shifts in global economic landscapes, regulatory environments, and technological advancements. Understanding the forces driving these trends is crucial for investors understanding the complexities of a rapidly changing financial ecosystem.
What have been the trends in private equity, and is the popularity of private credit on the rise?
According to a report from Bain & Company (MacArthur et al, 2023), private equity which has long been one of the larger and most profitable alternative investment methods, has seen some changes in the last couple of years. Private equity saw its second best year in 2022, however, due to conditions such as increased interest rates the deal flow in the private equity sector has declined since. One of the main causes for this decline is the rise in interest rates making it more expensive for private equity firms to finance their acquisitions. According to a report from EY (Witte, 2023), it is mentioned that during Q3 and the second half of 2023, the macroeconomic volatility and interest rates have started to stabilize, meaning more private equity activity. Furthermore, one report from PWC Germany (Roberts, 2023), has surveyed several private equity firms to understand the trends in private equity in 2023. What was concluded was the importance of investing in digitisation but also taking into consideration sustainability and ESG goals. 99 percent of the respondents claimed that they wanted to invest in digitisation since this is a key driver in value creation. What also is very interesting is the impact that ESG has on private equity firms. For example, all respondents answered that they have strong ESG policies when investing (77 percent in 2021). Furthermore, two thirds of the respondents have KPIs that measure the ESG impacts on portfolio companies, for example carbon footprint, this number was only 17 % in 2021.
According to a report from Macquarie (Macquarie Group, 2023), they examined the trends in private credit, mentioning the rise of private credit in recent years. Since 2007 (the financial crisis), the private credit sector has increased rapidly. In Europe alone the sector has increased from 36.2 billion US dollars in AUM (assets under management) to 187 billion US dollars in AUM during 2012-2022. Furthermore, Private credit according to the report has increased due to two key reasons. Firstly, the post-pandemic landscape, marked by private equity sponsors seeking debt for acquisitions, especially in resilient sectors like software and technology. Secondly, sponsors and borrowers are favoring longer-term partnerships, drawn to the flexibility and speed offered by private credit solutions, particularly unitranche facilities, which are notably popular in private equity-led M&A transactions. However, private credit just like private equity is also subject to possible difficulties due to macroeconomic conditions. The private credit sector faced challenges in 2023 due to rising interest rates, diminishing the demand for higher-leverage deals as borrowers grappled with a less favorable environment for servicing interest.
Are there any new alternative investment methods that have gained popularity?
According to a report from EY (Capolaghi and Remy, 2023), Private equity firms, known for buying and selling ownership stakes in companies, are themselves becoming subjects of acquisitions and sales. The practice of acquiring minority stakes in asset and wealth managers, particularly through GP (General Partner) stakes, has gained traction, providing benefits like liquidity injection and strategic value. As the private equity industry matures and faces economic challenges, the consolidation trend is increasing, with mid-sized managers turning to GP stakes for advantages such as balance sheet strengthening, operational scaling, and succession planning. Both General Partners (GPs) and Limited Partners (LPs) benefit from this trend, with GPs gaining strategic support and LPs enjoying diverse returns and portfolio diversification. The GP stakes trend, which originated in the 1980s, has expanded globally, with North America leading and Europe showing a growing appetite.
In conclusion, alternative investments have become a crucial focal point for investors seeking diversification beyond traditional assets like stocks and bonds. Private equity trends indicate a recent decline due to increased interest rates, yet stability in the latter half of 2023 may revive activity. Private credit has thrived post-pandemic, driven by longer-term partnerships and flexibility. New trends, such as acquiring GP stakes, offer liquidity injection and strategic value. Despite challenges, these alternatives provide diverse returns, emphasizing the evolving landscape for investors.
written by Ludvig Falkner
Sources cited:
MacArthur, H. et al. (2023) Private equity outlook in 2023: Anatomy of a slowdown, Bain. Available at: https://www.bain.com/insights/private-equity-outlook-global-private-equity-report-2023/ (Accessed: 20 December 2023).
Witte, P. (2024) Private equity pulse: Key takeaways from Q4 2023, EY. Available at: https://www.ey.com/en_gl/private-equity/pulse (Accessed: 20 December 2023).
Roberts, S. (2023) Private equity trend report 2023, PwC. Available at: https://www.pwc.de/en/private-equity/private-equity-trend-report.html (Accessed: 20 December 2023).
Macquarie Group (2023) 2023 trends in private credit and direct lending: Macquarie Capital, Macquarie. Available at: https://www.macquarie.com/au/en/insights/2023-trends-in-private-credit-and-direct-lending.html (Accessed: 20 December 2023).
Capolaghi, L. and Remy, V. (2023) The rise of GP stakes investing, EY Luxembourg. Available at: https://www.ey.com/en_lu/private-equity/the-rise-of-gp-stakes-investing (Accessed: 20 December 2023).