Topic Tags: Private Equity

2024 Halftime Market Insights

This video is a recording of a live webinar held July 23 by Marquette’s research team analyzing the first half of 2024 across the economy and various asset classes and themes we’ll be monitoring over the remainder of the year.

Our quarterly Market Insights series examines the primary asset classes we cover for clients including the U.S. economy, fixed income, U.S. and non-U.S. equities, hedge funds, real assets, and private markets, with commentary by our research analysts and directors.

Sign up for research alerts to be invited to future webinars and notified when we publish new videos.

If you have any questions, please send our team an email.

Credit Check

Interest in private credit has grown considerably in recent years and the asset class has moved from a relatively small or non-existent allocation in institutional portfolios to a multi-trillion dollar market accessed by a wide variety of investors. Demand for private credit remains high, but the rapid growth of this space has sparked debates about potential bubbles and whether underwriting standards have diminished given intense competition among lenders. However, recent survey results indicate that underwriting standards may actually be more conservative today than in prior years, highlighting increased caution with regard to both borrower leverage and required levels of equity within borrower capital structures.

Based on a survey conducted by Proskauer capturing responses from 178 senior-level private credit executives, lenders have reduced the maximum level of leverage they are willing to underwrite in private credit deals in recent years. In 2021, more than 68% of lenders to U.S. corporate borrowers were willing to underwrite deals with more than 6.0x leverage, as measured by borrower debt-to-EBITDA. That figure increased to over 82% of U.S. lenders in 2022 but has since fallen sharply, with now just 45% of lenders willing to underwrite highly leveraged deals. Today, more than 55% of private credit lenders cap deal-level leverage at 6.0x, indicating a shift towards more cautious standards in the current interest rate environment. At the same time, borrowers are now requiring more subordinated equity exposure in the deals they underwrite. Deal equity, often provided by private equity sponsors, represents the amount of equity subordination in a borrower’s capital structure and offers a degree of downside protection for the lender if stress arises for the borrower. In 2021 and 2022, those lenders requiring less than 35% equity in deals represented 18% and 22% of Proskauer survey respondents, respectively. However, the proportion of lenders willing to lend with less than 35% deal equity fell to 13% in 2023 and currently sits at approximately 12%. Conversely, lenders requiring at least 45% equity in deals increased from 25% to 55% over the last three years, again highlighting the trend towards more conservative deal structures.

In summary, given elevated interest rates, lenders are prudently reducing the amount of leverage they are willing to support for corporate borrowers and are also requiring more deal equity. These efforts are largely aimed at enhanced downside protection and reflect increased caution among lenders in response to broader economic conditions. At the asset class level, private credit remains an attractive opportunity set for investors, offering attractive yields, portfolio diversification, and downside protection.

The Growing Popularity of Continuation Funds

Historically, the private equity secondary market has been used by limited partners (“LPs”) to sell exposures at the end of their lives and as such contained only tail-end exposures. Selling these lingering exposures to private equity funds allowed LPs to clean up their balance sheets and fueled the growth of secondary private equity funds within the broader private equity space. As the market evolved, however, higher-quality assets began transacting as investors started to use secondary markets as a useful portfolio management tool. More recently, general partners (“GPs”) have come to occupy an increasing percentage of the overall market. In 2023, about $110 billion in volume traded in private equity secondaries, with about 50% of the total transaction activity represented by GP-led transactions.

In this newsletter, we provide an overview of continuation funds, including their growth, structure, transaction requirements, and considerations for investors.

1Q 2024 Market Insights Video

This video is a recording of a live webinar held April 25 by Marquette’s research team analyzing the first quarter of 2024 across the economy and various asset classes and themes we’ll be monitoring in the coming months.

Our quarterly Market Insights series examines the primary asset classes we cover for clients including the U.S. economy, fixed income, U.S. and non-U.S. equities, hedge funds, real assets, and private markets, with commentary by our research analysts and directors.

Sign up for research alerts to be invited to future webinars and notified when we publish new videos. If you have any questions, please send us an email.

Another (Down) Round

Venture-backed companies tend to be nascent and typically deploy investment capital in an effort to drive revenue expansion, often to a point at which they are losing money. Given this profile, these businesses must raise new capital every few years to fund future growth. In normal circumstances, each capital raise is conducted at a higher valuation, assuming the company remains financially viable. That said, there are occasionally instances in which the market’s perception of valuation has materially changed or the company is not achieving specific growth targets. Cases like these, which are referred to as down rounds, result in companies being forced to raise capital at lower valuations than the ones exhibited during the most recent fundraising period.

Many venture-backed companies raised capital in 2020 and 2021 at relatively high valuations. Since that time, a significant portion of those companies have seen cash levels depleted and are now returning to the market in order to fund operations for the next few years. However, today’s market environment looks quite different from those of 2020 and 2021, which means these companies are being confronted with much lower valuations as they attempt to raise capital. As displayed in this week’s chart, these dynamics have led to a steady increase in the number of down rounds over the last several quarters. To that point, down rounds (as a percentage of all fundraising rounds) hit a new high of nearly 27% in the third quarter, which is more than double the long-term average.

The trends depicted in the chart above are likely to lead to some disappointing returns for venture capital funds with vintages from 2018 through 2021, as these funds deployed significant amounts of capital during those years and now face a more challenged valuation landscape. On the bright side, these dynamics may present an opportunity for funds with more recent vintages and fresh capital to invest at more attractive valuation levels. Marquette will continue to monitor developments within the venture capital space and provide recommendations to clients related to existing exposures and future commitments.

2024 Market Preview Video

This video is a recording of a live webinar held January 25 by Marquette’s research team analyzing 2023 across the economy and various asset classes as well as what trends and themes we’ll be monitoring in the year ahead.

Our quarterly Market Insights series examines the primary asset classes we cover for clients including the U.S. economy, fixed income, U.S. and non-U.S. equities, hedge funds, real assets, and private markets, with commentary by our research analysts and directors.

Sign up for research alerts to be invited to future webinars and notified when we publish new videos. If you have any questions, please send us an email.

2024 Market Preview: A 40 Degree Day

A former colleague once described his brother-in-law to me as a “40 degree day.” The puzzled look on my face revealed my unfamiliarity with the term, so he went on to ask me: “When does anyone get upset about a 40 degree day?” I laughed and shook my head — it was genius, the perfect way to describe something more forgettable than memorable…not especially good or bad, just average.

Given what markets have been through over the last four years — COVID, outsized returns both good and bad, record inflation, sky-rocketing interest rates, geopolitical conflict, and elevated volatility — I know I’m not alone in hoping that 2024 market returns will resemble a 40 degree day. Indeed, an “average” year of returns across markets will equate to positive portfolio performance for most asset allocations and allow investors to satisfy their risk and return goals.

Of course, there are potential stumbling blocks to a “normal” year. In particular, we will closely watch the Fed pivot and the disparity between expected and actual rate cuts, geopolitical conflicts, and the U.S. presidential election.

With that as background, we offer our annual outlook across asset classes, highlighting trends and themes for the year ahead. Happy reading and here’s to a year of normalcy!

How to Appraise the AI Craze

Even the most casual observers of market dynamics are likely aware that investor interest in artificial intelligence (AI) has surged in recent time. Within public equity markets, the share prices of companies tied to AI like Meta, Microsoft, and Nvidia have seen massive rallies since the start of the year, and a similar story exists in the world of venture capital. On a year-to-date basis through June 30, 2023, which is the most recent date for which information is available, companies focused on AI-related initiatives received 26% of total U.S. venture funding according to Crunchbase. This number represents a significant increase from the 11% figure posted in 2022. According to Pitchbook, a total of $23.2 billion has been committed to generative AI start-up businesses in 2023 through mid-October, which is already an increase of 250% when compared to last year’s total.

There are several factors that help to explain this surge in investor interest. First, recent advances in the field of generative AI have allowed for the automation of creative processes that have applicability across the market spectrum. To that point, a recent survey conducted by Boston Consulting Group found that roughly 70% of marketing companies are already employing generative AI processes for a variety of use cases including content creation and the personalization of advertising. Additionally, the field of adaptive AI, which includes machine learning, has also seen progress in recent time, with many companies now using these tools in forecasting and data analysis. Indeed, whether these new technologies are utilized to increase efficiency or decrease costs, it is clear that businesses across the economy find the benefits of AI extremely appealing, as do many investors.

Given the significant capital flows into the AI space this year, readers may be questioning the extent to which the current landscape mirrors that of the Dot-Com Bubble of the late 1990s. While it is likely too early to answer that question, it is clear that not all AI-related companies will succeed in the long run, and investors with excessive exposures to the space may be taking on elevated risk levels given a lack of diversification. At the same time, the use cases of AI are clearly significant and broad, so market participants will certainly benefit from some level of exposure to the space across both public and private markets. This dynamic speaks to the importance of investment manager due diligence and selection, which Marquette conducts on an ongoing basis across the asset class spectrum.

3Q 2023 Market Insights Video

This video is a recording of a live webinar held on October 26 by Marquette’s research team, featuring in-depth analysis of the third quarter and themes we’ll be monitoring for the remainder of the year.

Our Market Insights series examines the primary asset classes we cover for clients including the U.S. economy, fixed income, U.S. and non-U.S. equities, hedge funds, real estate, infrastructure, private equity, and private credit, with presentations by our research analysts and directors.

Sign up for research alerts to be invited to future webinars and notified when we publish new videos. 
For more information, questions, or feedback, please send us an email.

2023 Investment Symposium

Watch the flash talks from Marquette’s 2023 Investment Symposium livestream on September 15 in the player below — use the upper-right list icon to access a specific presentation.

 

Please feel free to reach out to any of the presenters should you have any questions.