Institutional investors are increasingly shifting their focus towards private asset classes, driven by escalating geopolitical risks and ongoing volatility in public markets. Nearly six out of ten believe these assets will offer superior risk-return profiles in uncertain times, according to a survey conducted by PGIM, the global asset management arm of Prudential Financial, on Tuesday 22 October 2024. The survey included 250 investment decision-makers from Europe, the Middle East and Africa, representing approximately $10trn in assets under management, who were polled in the spring and summer of 2024.
The study indicated that 76% of these decision-makers expect their risk appetite to increase over the next two years. Moreover, they generally agreed on a strong preference for private credit, real estate debt and equity, and sustainable equity as strategies to meet portfolio objectives focused on returns, income generation and risk management.
Private credit
Within the realm of private credit, nearly half of the respondents (49%) planned to maintain their current allocations, while 44% expressed intentions to increase exposure to this asset class. Preference for sponsored lending was particularly evident, indicating a distinct trend among investors. Despite the European private credit market being less developed than its United States counterpart, the potential for growth in the region offers opportunities for managers with local expertise.
Real estate market
The real estate market, despite facing challenges, witnessed a resurgence in optimism due to recent valuation adjustments. The survey indicated that value-add real estate strategies emerged as the primary focus, suggesting that investors were willing to take on some risk, albeit not to the extent of pursuing more opportunistic strategies.
Private alternatives
Private alternative assets increasingly occupied a pivotal role in institutional portfolios, propelled by the desire for higher returns and diversification, as well as the expanding opportunities within private markets. According to PGIM, the prolonged era of low interest rates post-financial crisis significantly contributed to the demand for private alternatives. Despite the current high interest rate environment, the relative stability of private alternative assets presents a compelling case for institutional investors, who benefit from superior risk-adjusted returns. PGIM recalled that a separate study released by CAIA in 2024 confirmed that annualised returns from private equity allocations in US state pension funds consistently outperformed those of public equities over a period exceeding two decades.
Private market assets
The PGIM survey findings underscored the increasing commitment of investors to elevate their allocations in private market assets over the next few years. Respondents cited growing geopolitical risks and diminishing correlations between public and private markets as primary motivators for this strategic shift. The integration of private alternatives into investment portfolios was seen as a means to enhance risk-return profiles and mitigate market volatility.
Institutional portfolio
The survey included participants from a range of institutional backgrounds, such as private banks, sovereign wealth funds, foundations and endowments, insurance companies and pension funds. Private alternatives accounted for approximately 25% of respondents’ portfolios. Within this allocation, real estate equity made up 18%, private credit 11%, private equity 10% and real estate debt also 10%. Looking ahead, investors anticipated increases in allocations to private credit (44%), private real estate debt (42%) and sustainable equity (40%) over the next two years. Furthermore, 58% of respondents cited rising geopolitical risks, while 36% pointed to increased volatility in public markets as factors driving demand for active strategies and private alternatives.
Geographically, developed Asia-Pacific (64%) and emerging Europe (59%) were identified as attractive regions for increased investments in the next two years, whereas investor appetite for Latin America (8%) and China (26%) was expected to decline.
Asset managers
The study revealed that a significant portion of respondents (52%) expressed dissatisfaction with the performance of their current asset managers in providing access to liquidity through secondary markets. Furthermore, 32% noted that their managers fell short of meeting expectations regarding the timing and speed of exit transactions. Notably, a preference for larger, multi-line asset management firms with comprehensive offerings and local market presence was observed, with 62% of respondents favouring this approach over smaller boutiques, which garnered support from only 22%.
Institutional funds
The influx of institutional funds into private alternatives marked a historic shift in investment behaviour. This movement was partially driven by the unprecedentedly low interest rates following the global financial crisis, but recent market volatility has also contributed to the heightened demand for private alternatives. Approximately 36% of respondents expected increased volatility in public markets over the next two years. Additionally, 88% of those surveyed acknowledged the income-generating potential of private alternative assets, with real estate and infrastructure investments providing steady income streams through rents and usage fees. Such assets had thrived in the low interest rate environment when traditional fixed income investments fell short of meeting income requirements.
Asset allocation
The survey highlighted that private real estate equity, private equity and private credit have emerged as the most commonly held assets among respondents, with private real estate equity commanding the highest allocation at a median of 18%. The private credit sector, accounting for a median allocation of 11%, was the fastest-growing sub-asset class within private alternatives, a trend closely tied to changes in bank lending practices following the 2008 financial crisis.