According to the latest Preqin Risk Monitor report, historically high levels of dry powder are still available after a couple of years of buoyant fundraising.
19 April (Preqin News) - As private markets face the chilly headwinds coming from financial market and geopolitical uncertainty, record levels of dry powder could be a factor helping to warm the performance of 2022 and 2023 vintage funds.
According to the latest Preqin Risk Monitor report, historically high levels of dry powder are still available after a couple of years of buoyant fundraising. Buyout funds raised a total of $360.3bn in 2021, the second-best year for fundraising in the last 10 years, trailing only 2019’s $410.7bn. Fundraising in 2022 then regressed to the mean, with most of the $309.6bn being raised in the first half of the year. Dry powder reserves grew to $979.3bn in the first half of 2022, as total buyout assets under management (AUM) rose to $2.3tn.
The reservoir of capital could help limit downside performance, according to the report’s author, Curtis Pack, Senior Vice President at Preqin company Colmore. He says that investors in private markets have encountered difficult market conditions before, providing them with an opportunity to utilize lessons learned from previous experience.
“Notwithstanding the current drama in the banking sector and the possibility of a further shake-out of private equity-backed companies, investors in private markets are generally taking comfort in the fact that they’ve seen this before,” the report says. “They are taking a risk-on approach to ‘buy the dip’, rather than thinking this could be a falling knife.”
Many investors are also armed with fresh capital seeking a home as a result of the re-emergence of net distributions in 2021 and 2022. It might not be a straight pass-through however, given many institutional investors are reporting overallocations to private equity, while the rare tumble in both public equity and debt markets (and its contribution to the denominator effect) will also potentially redirect capital to public markets.
In addition to the build-up in dry powder, the report also identifies two other potential factors that could help support a solid performance for the vintages in question. One is the conservative valuation policies adopted by many firms. The other stems from PE firms’ focus on value creation for 12–24 months, placing greater importance on EBITDA metrics for portfolio monitoring in contrast to a previous focus on revenue and growth costs.
“The implication on performance for the 2023 vintage is that there should be ripe opportunities at more reasonable valuations than the previous two to three years to produce average to above-average returns,” the report suggests. “Manager selection, investment strategy, and investor terms will all have an impact on performance.”