What will the macroeconomic environment look like in 2025?
Nicholas Brooks, Head of Economics and Investment Research, ICG:
With inflation finally starting to near central banks’ targets, interest-rate-cutting cycles have begun, which should support households, companies, and deal flow in 2025. If this macro environment holds, we believe the overall investing environment will remain constructive.
Despite these positives, geopolitical risk remains high, with the Middle East and the recent US presidential election in focus. The lagged impact of high interest rates is still feeding through segments of the market, and for some companies, the wounds from the pandemic and energy price crisis have not yet fully healed. Therefore, while we think system level risks are quite low, we think idiosyncratic risks remain higher than normal. [1]
Karine Litou, Deputy Head of Private Capital, Securities Services, BNP Paribas:
Despite the risks, the rationale for investing in private markets remains strong. LPs have increased their allocations to private capital markets in recent years to diversify their portfolios and seek long-term, stable returns. Managers are keen to raise capital from this growing pool of investors, but operating in this environment can be challenging. Investors are cautious, and they’re in search of assets that offer the right risk-return profile. Managers need to cater to these shifting expectations.
Some are offering a flexible, multi-asset-class strategy that allows managers to pivot to in-demand asset classes such as private debt and infrastructure. The returning cashflows and stable revenues of private debt and infrastructure debt can act as a natural inflation hedge and offer stability against economic fluctuations.
Along with sustained investment performance, managers need to deliver transparent and responsive services to clients and comply with evolving regulatory obligations. As investors demand a more bespoke service, fund structures are becoming more complex, increasing the operational challenge. Asset servicers such as BNP Paribas can help GPs manage this complexity.
How have the current market conditions influenced the needs of LPs in private capital markets?
Karine:
With the current economic landscape, LPs are placing a stronger emphasis on liquidity. They are seeking ways to access it, such as through the secondaries market, allowing them to manage their cash-flow needs more effectively and diversify their investments.
They are also increasingly asking for greater clarity from GPs on distribution to paid-in (DPI) metrics. DPI is a crucial indicator of a GP’s ability to return capital efficiently and in these uncertain times, LPs want assurance that their investments will yield timely returns.
For GPs, this means they must place stronger emphasis on liquidity and adapt their strategies and fund structures to meet these evolving demands. They must navigate the complexities of providing liquidity solutions and transparent reporting, while continuing to pursue long-term investment strategies that align with the investors’ goals.
What challenges do GPs face in adapting to these new expectations?
Karine:
GPs must now navigate a broader range of investor profiles and expectations. Many funds cater to a diverse group of investors, from institutional investors who can commit significant amounts, to smaller retail investors with lower ticket sizes. This diversification requires GPs to significantly enhance their operational capabilities to manage varying demands.
Another key challenge is the extended timelines within an investment cycle as a result of the market environment and cautious investor sentiment. GPs are taking longer to invest in target companies and subsequently exit those investments. The extended timeframes for investments and exits put pressure on them to provide liquidity and distributions to their investors.
Fundraising has also become a longer process, sometimes taking up to two years.
As more individual investors enter the private capital space, traditional asset managers that previously focused on public markets are now expanding into private capital to offer these opportunities to their clients. This shift to private capital may present new challenges around managing subscriptions, redemptions, capital calls, drawdowns, valuations, P&L allocations, performance calculations, and reporting – and may require specialist solutions. [2] For instance, hybrid funds offering access to private markets with partial liquidity windows are one increasingly popular approach.
GPs have also had to become more flexible, shifting toward bespoke solutions that meet investors’ evolving needs. As a result, fund structures are becoming more complex. GPs have to incorporate different master-feeder arrangements, multiple currencies, segregated management accounts, parallel vehicles, and co-investment vehicles to meet the diverse needs of investors and ensure efficient operations.
This proliferation of fund structures has led to a greater need for consolidated reporting and transparency as LPs seek a holistic view of their investments across the various vehicles. GPs must now provide consolidated capital account statements that encompass all vehicles involved, which can be a huge operational challenge.
What strategies should GPs implement to address these challenges?
Karine:
Effective collaboration with asset-servicing partners can help GPs navigate the evolving landscape and meet the growing expectations of LPs. By leveraging technology, asset servicers can help scale their clients’ operations, enhance their data security, and manage their client reporting.
Technology is key. GPs need to have a single, integrated technology solution that can manage the increasing complexity of fund structures. This allows them to consolidate data, automate processes, and produce comprehensive investor reports – such as capital call and distribution notices and capital account statements – across multiple investment vehicles.
Utilizing a digital portal like CapLink Private by BNP Paribas could give GPs secure and real-time access to data, as well as streamlined workflows for validating information and interacting with the asset servicer that can enhance efficiency, transparency, and control for the GPs.
Outsourcing some of the functions such as accounting, fund registry monitoring, and investor reporting to the asset servicer can help GPs cope with the complexities of fund structures and the specific requirements of running private capital funds. It can also alleviate the operational burden on internal teams, while allowing GPs to focus on strategic decision-making and generate value for their investors.
[1] https://www.icgam.com/2024/10/12/the-easing-cycle-begins/
[2] https://securities.cib.bnpparibas/powering-private-markets-growth-why-gps-cant-do-it-alone/