Private equity in 2024: a waiting game

Private equity firms have had to play a waiting game in 2024.

Falling interest rates and improving stock market valuations have been well-received by private equity managers, who have been waiting for the cycle of rising rates to peak and for clearer visibility on pricing risks to emerge.

But while the macro-economic backdrop has undoubtedly improved through the course of the year, the much anticipated “pent-up demand” in M&A and buyout activities, that was set to drive a surge in dealmaking, hasn’t quite materialized at the scale managers would have hoped.

Global buyout deal value has improved year-on-year, climbing by more than a third over the first nine months of 2024 to $637.02 billion, according to figures from law firm White & Case and Dealogic.

The uptick in deal value, however, does have to be placed in context. Buyout deal value has been in decline for two years, and despite the uptick in deal value in 2024, deal activity is still well short of the levels reached at the peak of the market in 2021.

The challenge the industry still faces on the road to a full recovery is particularly stark when reviewing exit value figures. At the end of Q3 2024, global exit value was close to a third down on figures for the same comparative period last year. As was the case in 2023, landing exits at attractive valuations has remained the single biggest challenge for private equity firms in 2024.

Tepid exit markets have meant thinner distributions to investors, which has had an ongoing impact on fundraising.

According to PEI figures, private equity fundraising fell the lowest levels observed in four years during the first three quarters of 2024. Much of the capital that has been available, meanwhile, has been absorbed by a small cluster of large managers. Bain & Co figures show that for the calendar year to the middle of May 2024, the ten largest buyout funds that closed during the period accounted for almost two-thirds (64 percent) of capital raised.

With distributions and liquidity constrained, LPs have directed the capital they do have available to large, trusted managers that offer scale and protection against downside risk. For managers outside of this cohort, the upshot has been longer fundraisings, with PEI noting that, on average, funds that closed in 2024 took 19 months to close, more than double the average time period taken to reach a final close in 2020.

In an effort to kick start distributions, and hopefully fundraising, managers have demonstrated the asset class’s ingenuity and growing sophistication by sourcing liquidity options outside of traditional exit channels.

Secondaries – the primary source of liquidity in illiquid asset class – has thrived in a cash-constrained environment and provided an essential pool of capital to managers and investors seeking cash. According to Jefferies, secondaries deal value for the first half of 2024 climbed 58 percent on figures for the same period in 2023 to reach an all-time high of $68 billion, with GP-led and LP-led deals both making double-digit year-on-year gains during the first half of 2024.

Financing markets have provided further optionality for GPs seeking alternative levers to generate distributions.

NAV financing, once a niche product area, has seen remarkable growth since the turn of the decade, with analysis from 17Capital, an NAV finance provider, showing that the market more than doubled in size between 2020 and 2023.

NAV finance – loans issued at fund level against the value of portfolio companies in funds – have been used not only to provide addition capital to portfolio companies in funds that have moved out of investment periods, but also as a tool to unlock liquidity in unsold portfolio companies and make distributions to investors.

Managers have also demonstrated their expertise and knowledge of leveraged finance markets to expedite liquidity, with dividend recaps (where issuers of debt borrow to fund dividend payouts) back on the table as interest rates come down and lenders look for opportunities to put their capital to work.

The reopening of primary exit channels will be the biggest catalyst to fire up private equity distributions and fundraisings, but in 2024 managers, lenders and advisers have demonstrated the asset-class’s flexibility and ability to innovate and adapt in challenging times.

Private debt in 2024: steady state

After a standout 2023, private debt sustained strong performance in 2024 as it continued to deliver attractive risk-adjusted returns and attract investor interest.

Private debt fundraising has been robust through the course of 2024, with Private Debt Investor figures showing private debt fundraising for the for the first three quarters of 2024 coming in just fractionally below figures for the same period in in 2023 – a striking result when compared to a private equity market where fundraising has been subdued.

Steady fundraising has been driven by solid returns and private credit portfolio resilience. According to research from Morgan Stanley, direct lending strategies, for example, delivered average returns of 11.6 percent between the beginning of 2008 and the end of Q3 2023, outperforming both leveraged loans (5 percent) and high yield bonds (6.8%).

Portfolios have also held up well through the rising interest rate cycle. Defaults have ticked up as interest rates have ratcheted upwards, but according to analysis from law firm Proskauer, which tracks 872 senior secured and unitranche loans, worth a combined US$152 billion, the overall private credit default rate was sitting at only 1.95 percent in Q3 2024.

Losses have been kept to minimum through a period of elevated interest rates, evidencing the ability of private credit managers to work with management teams and financial sponsors in partnership to steer credits through volatile periods and protect value.

Consistent returns and the control of downside risk are also reflective of the efficacy of the private credit model more generally, where managers invest time and resource to due diligence prospective credits in detail, maintain relatively small but high-quality portfolios, and work intensively with portfolio credits through hold periods.

Private credit, however, has not had everything its own way in 2024, with the reopening of broadly syndicated loans (BSL) during the year intensifying competitive pressures and challenging private credit market share.

As interest rates have come down through the course of the year, BSL markets, which have been effectively shuttered for the last year, have sparked back to life, with White & Case figures showing issuance of leveraged loans in the US and Europe almost doubling year-on-year during the first nine months of 2024.

Offering cheaper cost of capital, leveraged loan markets have been able to refinance unitranche loans issued by private debt managers at cheaper rates, winning back business that went to private debt managers during the initial series of interest rate hikes.

According to Bank of America figures reported by Bloomberg, there have been at least 70 private debt deals in the US, worth close to US$30 billion, that have been refinanced in the BSL market at lower rates.

Private debt funds have had to bring down margins to remain competitive with the cheaper cost of capital offered by BSL markets, which has limited the spread of opportunities managers can pursue, given the returns private debt is expected to deliver for investors.

Private credit lenders are still able to differentiate their propositions by offering flexible loan packages, speed of execution, and reduced syndication risk. Price is not the only factor borrowers consider when choosing a financing solution, but as competition from the BSL market intensifies, managers will have to sharpen their pencils to keep margins as low as possible. 

Real assets in 2024: pockets of opportunity

Despite cooling inflation and interest rate cuts, real assets managers and investors have remained on a cautious footing in 2024.

Indeed, fundraising for real estate and infrastructure funds has been muted through the course of the year. PERE figures show a decline in year-on-year real estate fundraising of more than a third during the first nine months of the year. Infrastructure fundraising has been more stable, with Infrastructure Investor reporting an uptick in year-on-year fundraising for the first three quarters of 2024, but noting that full year figures could still fall short of the annual total for 2023, as there was a surge in activity in the final quarter of last year that could be difficult to replicate.

Even though macro-economic fundamentals have improved through the course of the year, managers and investors have taken a patient approach, waiting to build a clearer picture on how the outcome of a US Presidential election and intensifying global tensions could impact real assets over the longer term.

Volatility has continued to linger, but green shoots did begin to emerge in the real estate sector in second half of the year, with JLL reporting an improvement in real estate transaction activity as lower debt costs and more pricing data points gave dealmakers the confidence to progress with new transactions.

Large, developed real estate markets, most notably the US and UK, have seen the biggest rebounds in deal activity[4], with JLL noting that improving macro-economic conditions have boosted consumer-facing segments such as hospitality and retail real estate. Office real estate has stabilized as companies pivot back to more office working, but logistics activity has been more reserved, with corporates reviewing supply chain dynamics and existing footprints before expanding into new space.

In the infrastructure sector, meanwhile, deal activity has also varied by subsector. CBRE notes that over the first half of 2024, overall infrastructure M&A activity was down year-on-year, but that in select verticals, such as power and transport, there were strong year-on-year gains.

Two mega trends that have continued to drive both real estate and infrastructure fundraising and deal activity have been data centers and decarbonization.

Investment in data centers has barely skipped a beat through the cycle of rising interest rates, with the huge demand for data to power digitalization and AI sustaining data center build outs despite wider macro-economic dislocation. According to JLL the colocation data center market in the US alone has more than doubled in size during the last four years, supporting ongoing M&A and debt financing transactions opportunities.

Decarbonization, meanwhile, has remained a core priority for real estate investors, who have recognized the importance of reducing emissions across the sector, which accounts for an estimated 40 percent of global emissions, according to CBRE.

Decarbonization has become a regulatory and compliance necessity, with the introduction of new frameworks such as the Sustainable Finance Disclosure Regulation (SFDR) and the phasing in of higher real estate energy efficiency standards.

Transitioning to cleaner, lower-emissions buildings will require significant investment from the private sector, and present opportunities for investors and developers to build out differentiated property portfolios with the potential to generate higher returns.

Real assets investors and managers will continue to rely on these two megatrends to drive portfolio performance in 2025 but will be hoping that lower interest rates can boost other segments within the asset class too.