A more challenging fundraising environment for private markets may mean fund sizes stagnate over the next 12 months, suggests our 2023 survey of fund leaders in the private market industry. But private debt may defy the trend, as it draws allocations from other asset classes, industry observers say.
The PDI Fund Leaders Survey 2023, which compiled responses from 101 senior buyout, growth, private debt, venture capital, real estate and infrastructure executives globally over the summer, found only 56 percent said their current fund is larger than the predecessor, down from 75 percent in 2022 and 74 percent in 2021. Instead, 30 percent said they are targeting the same amount for their next fund as their last, which was the case for just
1 percent of fundraises last year.
The figures show 60 percent of managers are currently fundraising, with a further 20 percent planning to start raising later this year.
Robert Molina, managing director and head of origination at Briarcliffe Credit Partners, says: “We are seeing a very similar sentiment in that GPs are targeting less ambitious fund sizes. That is because LPs, while they might be pleased with their relationships and the way returns are performing, just don’t have enough capital available to re-up at the same size or greater than previously. Often they haven’t had the distributions coming through from private equity and the competition for LP capital remains even more fierce than in the past.”
Jeffrey Griffiths, co-head of global private credit at placement agent Campbell Lutyens, says the landscape may be more positive for private debt than other asset classes. “Unlike in private equity, where there has definitely been a pronounced slowdown in the need to raise capital and the size of funds, in credit, the fundraising numbers are a bit higher,” he says. “We see more like two-thirds of managers fundraising right now and most groups are looking for larger fund sizes.”
Largest fund ever
One of the biggest fundraisings currently in the market is Ares Management Corp’s new European direct lending fund, which is looking to surpass the €11 billion raised for its previous fund in 2021. Elsewhere, Oaktree Capital Management has set an ambitious target for its Oaktree Opportunistic Fund XII, seeking $18 billion to create what would be the largest private debt fund ever.
Griffiths says: “It is difficult to fundraise and there is less ability to invest in most alternatives given the constraints on private market allocations. But the return opportunity in private credit is so attractive it is drawing larger allocations and new allocations, at the expense of private equity and publicly traded fixed income.”
Nevertheless, fundraising is taking longer and is more arduous, with processes typically taking 18 to 24 months to complete.
“We are seeing new investors add allocations to private debt, but it takes time. They have to get approvals for that, which often means moving allocation away from something else, and then they have to go out and start meeting managers,” says Griffiths. “That can take a year or two from start to finish, but we have now been in this higher rate environment for 12 months so that is starting to flow through.”
“The return opportunity in private credit is so attractive it is drawing larger allocations”
Molina says three areas in particular are attracting interest from LPs during credit fundraisings. “The three areas of interest right now are firstly senior lending strategies, because people want to be at the top of the capital structure as a conservative stance, and secondly, asset-based lending strategies, because investors want to be close to the asset in case things do go wrong.
“Lastly, we see a lot of interest in opportunistic credit or so-called all-weather strategies that seek the most attractive relative value across multiple credit types, whether that is primary or secondary, public or private debt, senior or junior, structured or non-structured.”
Looking forward, most fund leaders expect fundraising to be particularly challenging for emerging managers – 55 percent expect fundraising to decrease for that segment in the coming year. Only 21 percent expect established managers to increase their fundraising in the year ahead.
Griffiths says credit is an especially challenging sector for emerging managers: “The concept of the emerging manager is quite different in private credit versus private equity.
“In PE there is more of a risk-seeking opportunity, so investors are more willing to take a risk on the strategy side or on a new team or a new manager. Private credit investors are more risk averse, so it is much harder for new managers to break in.”
He says this has always been the case and it is now even more difficult as allocations are more constrained.
New managers that achieve successful fundraises typically have a cornerstone investor for support. Meanwhile, Molina says GPs are having most success in winning over new LP relationships when they are offering a diversification opportunity beyond direct lending.
“Where we see new relationships between LPs and GPs it tends not to be on direct lending right now,” he says. “That is because direct lending is a victim of its own success; returns have been consistent and continue to rise as interest rates rise, so LPs are typically happy with those relationships. Where they are looking for those new relationships is in areas like asset-based finance or opportunistic credit.”
Managers say the three factors that will have the greatest impact on private markets in the next 12 months are rising interest rates, recession in core markets and high inflation.
In all, 41 percent feel positive about the operating environment for private funds in the next year compared with last year, whereas 61 percent felt positive when asked the same question a year ago and that figure was 79 percent back in 2021.
Fifty-two percent of those who completed the survey expect their funds to do better in the next 12 months than they did last year, while 7 percent think their funds will do worse.
The outlook may be more bullish for private credit managers than their peers in other asset classes. Molina says: “For private credit, this is an encouraging environment right now. As interest rates are higher and most of those strategies are floating rate, return expectations are rising.
“At the same time, the competitive environment for public credit has decreased, allowing private credit to be more competitive. Then of course, inflation risk is addressed because as inflation rises, so do interest rates. So I would think sentiment on the equity side is probably worse than on the credit side.”
As funds shape up to diversify their investor bases and tap into new sources of capital, 21 percent of fund leaders say they now have a team dedicated to private wealth clients, while one in four have a defined strategy to attract a larger proportion of private wealth investors.
On innovation, more than six in 10 respondents feel artificial intelligence will be the most significant technology shaping businesses and industries over the next decade.
Still, just 14 percent have implemented AI solutions in their portfolio companies already, and fewer than 10 percent have introduced AI at fund level. The biggest area of focus today is on portfolio management and performance tracking, where four in 10 plan to start employing AI over the next year.