Global economic uncertainty slows the momentum of private markets

Since the global financial crisis of 2008, private markets have enjoyed a stellar period of unprecedented growth. New records for fundraising and deal flow have been set on an almost annual basis, with the consistently strong performance of alternative asset classes solidifying their position as one of the most desirable additions to investors’ portfolios. 

However, as 2022 progressed it became clear that the global economy was set to enter a period of significant turmoil sparked by rampant inflation, spiking interest rates, and huge political uncertainty. This ‘perfect storm’ resulted in the volume of private markets deals plummeting, a decline in asset performance, and sharp falls in valuations, particularly in certain sectors. 

In this blog, we explore the findings of McKinsey’s Global Private Markets Review 2023 and share Delio’s own perspectives on how the current economic climate will impact the role of private markets over the next 12 months. 

2022 – a year of two halves for private markets

2021 was a record-setting year for private markets, continuing a decade-long trend of almost relentless growth. This momentum carried over into the first half of 2022, with deal activity slowing but still managing to nearly match the pace of the previous 12 months, despite growing unease around market conditions as public market valuations crashed.

The summer of 2022 marked a significant turning point as deal volumes dropped sharply and valuations fell, although private markets continued to outperform their public counterparts on the way down. It is also important to note that despite the volume of deals falling by 15% to just under 60,000, 2022 is still the second best fundraising year on record. This suggests that LPs are still taking a disciplined and longer-term view of private markets. 

And while there was a general slowdown in commitments, an outsized share of capital still flowed into larger funds as investors doubled down on existing managers while moving away from new or smaller funds. Funds over $5bn raised $445bn cumulatively, a record amount that was 51% up on 2021. However, funds under $5bn raised 28% less than the year before, while first time fund launches were down 40%.

Fundraising remains resilient in North America, but slows in Asia and Europe

While 2022 could be split into two distinct halves in terms of deal making, the fundraising landscape was more clearly segmented by the performance of different parts of the world.

Private markets fundraising in North America demonstrated a resilience that was not replicated elsewhere. Here, fundraising grew by 2% year on year, while Asia saw a drop of 39% and Europe a decline of 28%. 

Asia’s steep fundraising decline over the last 12 months reflects a longer-term trend that has been seen since 2017. Year-on-year, the region has seen fundraising drop by 16%, driven primarily by reduced investment into China. As an example, China represented 83% of Asian fundraising in 2017, but just 34% in the past year. 

Meanwhile, 2022 marked the end of 11 years of fundraising growth in Europe. Political instability, the war in Ukraine, and highly volatile foreign currency exchange rates all played a part in creating broader macroeconomic challenges. The strength of the dollar also accounted for a material portion of the decline in fundraising seen outside of the US. 

Some alternative asset classes continue to thrive

While the overall picture for private markets during 2022 is undoubtedly one of uncertainty, some asset classes continued to perform strongly and offer investors a haven from choppy economic waters.

Real estate was one of the big winners. Institutional investors still appear confident in their long-held belief that this asset class will protect its value during periods of high inflation as seen last year. As a result, it remained an attractive ‘inflation hedge’, despite expanding cap rates towards the end of 2022 potentially signalling heightened uncertainty for the year ahead.

Private debt fundraising was one of the few asset classes to see growth in 2022, up 2% on the year before. Its attractive combination of current yield, floating rates and insulation from declining valuations, meant that institutional investors continued to seek out opportunities. 

Infrastructure and natural resources fundraising rose to an all-time high of $158bn, although it is important to note that the definition of these assets continues to expand. The surge in oil and gas prices drove significant demand for traditional energy investments, while the continued focus on decarbonisation powered growth in renewable energy research and projects.

However, while there were winners, there also had to be some losers. Global PE performance turned negative (down 9%) for the first time since 2008, ending its five year run as the best performing private asset class. Tech-focussed buyout funds were the worse performing buyout fund for a second successive year.

A challenging period… but opportunities still exist

There can be little doubt that 2022 was a challenging year, both in terms of the global economic outlook and for private markets specifically. However, the growing importance of alternative assets certainly hasn’t disappeared, with many commentators pointing to the role they played following the 2008 financial crisis as evidence of what could lie ahead.

Gareth Lewis, chief executive of Delio, believes that private markets will continue to evolve over the coming years. 

“The growth of the private markets space over the last decade has been nothing short of phenomenal. However, it would be foolish to think that alternative assets could remain completely immune to the wider economic fluctuations we’ve seen in the last year or so.

“Having said that, many alternative asset classes have continued to perform positively, and the world’s focus on areas such as climate change, sustainable energy and biosciences all suggest that private investment is likely to play a critical part in their ongoing development. 

“With private markets continuing to evolve away from being the exclusive domain of institutional investors, the role of non-institutional capital cannot be ignored either. Individual investors remain keen to deploy their wealth into private markets, with the promise of higher returns, less fluctuation, and access to different opportunities helping to drive interest. This audience represents an estimated $45tn pool of capital; with retail investors allocating around 6% to private markets on average, there is a significant opportunity for financial institutions to democratise access to motivated individual investors.”