Near-term opportunities and long-term trends

The following is an extract from our CIO spring update.

2022 was a challenging year for private markets, and 2023 offered little respite. After a long period of growth, the pace of new allocations dragged, thanks to higher interest rates and denominator effects (when private market weightings rise on the back of corrections in public market prices).

We also saw wide bid-offer spreads in the underlying investment markets and low levels of transactional activity, limiting liquidity. One of the bright spots was private credit, where rate increases led to some of the highest expected returns since before the global financial crisis.

Asset pricing corrected over the course of 2023, increasing yields for real estate and infrastructure and reducing multiples for private equity. This provided a boost to expected returns and help to rebuild risk premia to meet a higher cost of capital. The ‘everything’ rally of late 2023 will also have meant that many investors ended last year with a lower allocation to private markets than they started with. We think this could in turn lead to an upswing in activity for new allocations.

The fundamental picture

However, we cannot lose sight of a complex macro environment, as detailed by Tim earlier in this publication.

While markets still expect interest rate cuts in 2024, the risk remains that inflation will persist at elevated levels for longer. This would weigh on the degree of policy easing we can expect from central banks – and on strategies that rely on cheap leverage. An extended rate cycle is likely to support interest for floating-rate debt strategies. We also see index-linked assets, such as long-income real estate, as having a useful role to play in mitigating the risk that inflation will prove sticker than markets hope.

These themes are all already acting as powerful drivers in the evolution of the global economy; we believe their impact is only going to grow.

Within private markets, we see these megatrends as particularly beneficial for infrastructure supporting the energy transition, residential real estate, urban logistics and assets associated with the digital economy.

We think this will also play out in the private equity sphere: venture capital investing has experienced a challenging period for returns and allocations. For investors with a tolerance for illiquidity and access to expertise, early stage investing into businesses – particularly those with a focus on intellectual property and technology – seems to us an appealing way of adding to wider portfolio returns.

The four Ds

Looking to the longer-term, we see value in aligning investments with areas supported by exposure to a number of long-term trends.

This investment thesis is based on four themes we see as reshaping markets in the years and decades to come:

The above is an extract from our latest CIO spring update.