Times are changing again for private markets. This past year was unlike any recently, though one could have made the same statement in each of the last four Decembers. Inflation started high but trended lower.1 Interest rates started high (relative to the last decade) and went higher.2 Geopolitics grew even more challenging. And in that context, fundraising and (particularly) deal volume remained slow. As a new year begins, many of these challenges appear likely to persist, at least in the short term.
Wherever there are challenges, there are opportunities, and those that adapt more quickly to the new normal may be advantaged. We’ve identified ten key considerations for organizations looking to get a head start.
1. A return to a more normal year in dealmaking
Continued growth (but no explosion) looks likely as LP-driven pressure to return funds is balanced by a desire to achieve return objectives and the need to absorb higher interest rates. These factors, coupled with a rebounding valuation environment, could put downward pressure on bid-ask spreads over time.
2. Fundraising will remain tough as the ‘numerator’ effect prevails
The denominator has yet to fully recover: we saw that public equity markets rebounded, but fixed-income portfolios remain depressed in a high-rate environment.3 And the numerator is growing. While we’ve observed that PE exit velocity remains slow, capital calls continue, and valuation growth pushes net asset values (NAVs) higher. In combination, these factors continue to constrain fresh LP commitments.
3. Continued concentration among larger and better-known names
The industry remains highly fragmented, but LPs have favored larger funds in a constrained fundraising environment. New-fund formation, a key driver of sustaining fragmentation over the last decade, will likely be limited again in 2024.
4. Value creation is the ‘new old thing’
Decade-long tailwinds in low and falling rates and consistently expanding multiples seem to be things of the past. Transformative change (including both top-line growth and cost reduction) can and will boost value for those capable of executing, and it will likely be needed more than ever.
5. Evolving talent challenges
Accelerating efforts to improve diversity, equity, and inclusion are (slowly) reshaping the industry makeup and pushing firms to pursue new sourcing and attraction strategies. Meanwhile, many face development and retention challenges with professionals that, for the most part, have yet to experience a downturn.
6. Sourcing gets creative
We saw the number of sponsor-to-sponsor transactions grow in years past, but the dynamics above may constrain sponsors’ willingness to bring assets to market. Those with dry powder (which are many) may find more-willing sellers in family-owned businesses and corporate carveouts. Those with deeper networks and willingness to dig in deeply during diligence may have an advantage.
7. Infrastructure investing will accelerate (through both infrastructure GPs and others)
An expanding definition, growing maturity of the asset class, and uncorrelated returns have driven LPs to increase exposure to infra. Recent depressed fundraising totals have been a sell-side phenomenon, and LPs are likely to increase commitments shortly—should their actions match their stated intentions. Further, dollars to infra funds are just part of the story as buyout sponsors compete for assets within the overlapping space (for example, environmental services). Energy transition investing is playing a big role, and the government-backed dollars to be spent in the sector provide a tailwind.
8. Private credit continues to accelerate
We saw higher rates make a growing asset class more attractive, and capital has poured in. As banks continue to limit their own lending,4 opportunities to put capital to work will be numerous as dealmaking resumes, prior vintage loans reach their cliffs, and private lenders foray into new areas, including asset-backed and investment-grade loans. That said, the crowding could hamper spreads, and elusive competitive differentiation may become increasingly important.
9. Real estate deal volume picks back up
As the new normal of where and how we live, work, and shop becomes evident, rents seem likely to stabilize across sectors. Greater predictability should contribute to value discovery, tightening bid-ask spreads, and the slowdown of new construction should help tighten the market. A frozen deal market seems likely to thaw rather than flood. Pending distress in office and other sectors may jump-start activity.
10. Secondaries growing and enabling liquidity for GPs and LPs
Near-record secondary fundraising could enable growing influence across private markets as sponsors transfer assets to continuation vehicles to elongate hold periods and drive assets to full value and as LPs harvest portfolios to invest in new vintages. With higher rates and lower multiples, GPs may increasingly look to the broadening set of alternative capital solutions that secondaries players provide.