Institutional investors are facing a challenging fundraising environment in 2023, but those who adapt to changing market conditions will be successful, writes Lana Callahan, managing director – investor relations, Apex Invest (part of Apex Group).
Rising interest rates, upheaval in the banking industry and volatile markets – so far, 2023 has been a challenging year for investors. Some of the allocation trends that dominated in the first half of the year will be examined, as well as the expectations for fundraising in the remainder of 2023 and beyond.
State of playInstitutional money is proving more difficult to attract, both because institutional investors have lower distributions from their existing investments and, therefore, less cash to reinvest and also because the so-called denominator effect caps their ability to allocate additional capital to alternative investment strategies.
Allocators are being more selective and narrowing their focus on key manager relationships - usually those with an extensive track record. According to Preqin data, private equity funds raised $444.65 billion in the first half of 2023, down 20.5% year on year from $559.02 billion in the first half of 2022.
Across the market, there is a “flight to familiarity” with allocators seeking direct placements with managers with large existing AuM and strong track records. This preference for existing relationships has allowed established GPs to achieve their fundraising goals, even in the face of market uncertainty. However, for the smaller and emerging managers, this is contributing to longer fundraising cycles, delayed new launches and revised target fund sizes.
Perhaps unsurprisingly, in the second half of 2023, LPs will likely gravitate towards managers who have demonstrated strong performance and successful investments through previous economic cycles, including downturns such as the 2008 global financial crisis.
Hot topicsTowards the end of 2022, there was significant interest from allocators in private debt, which has remained an extremely attractive asset class into mid-2023. With financing from public markets remaining somewhat restricted and bank lenders cautious following the events in the sector earlier in 2023, borrowers are looking to the private markets for compelling and flexible terms and structuring. There will no doubt be further interest in distressed and special situation strategies which are already generating attention as opportunities present themselves across the capital structure. As LPs seek returns that are uncorrelated with inflation and volatility in the public markets, real asset, infrastructure, private equity and venture capital strategies also remain attractive.
Co-investment strategiesCo-investment strategies are also emerging as a popular and attractive investment approach for both LPs and GPs. The value of private equity co-investments involving sovereign wealth funds, pension funds, corporate investors and family offices increased nearly 39% year over year in the first quarter of 2023 to $42.3 billion, according to S&P Global Market Intelligence.
When returns are squeezed, the lower fees provided by co-investment vehicles offer LPs the opportunity to create greater returns and have greater control over their investment portfolio. LPs are also attracted by the higher levels of risk management, with greater levels of due diligence typically carried out on co-investment deals. It's not just the LPs that see the appeal. For GPs, too, co-investments can unlock capital for deals when fundraising is slow and financing is tight.
Hybrid fundraisingWhile the industry had to pivot and adapt quickly to digital fundraising tactics during the 2020-2022 period, the “death of in-person fundraising” following the pandemic has been vastly over-exaggerated. Instead, GPs are now employing a hybrid in-person and digital fund-raising approach. In-person communication remains the most efficient and primary way of building long-term, productive relationships between allocators and funds.
We are seeing an increasing appetite for high-quality in-person events – however, allocators and fund managers alike are keeping a close eye on their costs, meaning that any travel for conference and event attendance or in-person meetings must be more intentional and add significant value to the relationship.
In-person fundraising is also crucial for new and emerging fund managers, as GPs are fighting a broader "flight-to-familiarity" movement that has LPs focusing on relationships with a smaller number of managers with an established return record. To overcome this, it is essential that new managers get out from behind their desks to forge strong personal relationships with LPs via face-to-face meetings.
LPs are not only seeking forums in which to meet with potential GPs but also to strengthen the network amongst other allocators to network amongst themselves, sharing insights, ideas and ultimately - in the case of co-investments – returns.
What next?Overall, we believe that the outlook is positive as we support our clients’ efforts to allocate and raise capital. In H2 2023, we expect to see GPs return to the market in preparation for a refresh of allocations in early 2024. The most successful LPs and GPs will adapt to the changing market conditions and adopt a more efficient and collaborative approach to allocation and fundraising both via online and in-person platforms.
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