As change grips the financial world, the future of funds is not immune to progress. So what’s hot and what’s not in the funds world, where is investor interest headed – and what does it mean for Jersey and Guernsey?
The funds arena has seen some notable trends in recent times, not least the global appetite for access to alternative assets, which continues at pace.
In the Channel Islands, there has been a huge increase in the net asset value of funds focused on private equity and venture capital in the past five years.
Figures recently published by Jersey Finance show that in Jersey alone there has been a 249% increase. Guernsey is seeing growing interest, too.
Malcolm Macleod, Head of Funds and Institutional, Jersey, at IQ-EQ, explains: “This demand is not only from institutional investors, but increasingly from high-net-worth individuals (HNWIs) and family offices, who are diversifying their asset allocation away from traditional investments towards alternative assets.
“While some HNWIs and family offices choose to invest directly, most prefer to use a private fund structure in order to access talented asset managers with strong track records in high-quality deal origination.”
Mike Johnson, Chair of the Jersey Funds Association and Group Head of Institutional Services at Crestbridge, takes a similar view.
“Undoubtedly, the upward trend for investors globally to allocate to alternative asset classes is a sustained one, with Preqin forecasting total global alternative assets topping £17trn by 2025, up from just under $11trn in 2020,” he says.
“That trend has been mirrored in Jersey, with the total value of funds serviced in Jersey growing by a fifth over 2021, driven by a rise in alternatives – predominantly private equity and venture capital.”
Indeed, Preqin analysis – which offers an in-depth breakdown of trends across the sector – supports the view that the private infrastructure asset class is experiencing an ongoing fundraising furore.
Infrastructure fundraising has maintained an unprecedented pace, according to its analysis, with as much capital raised in the first six months as one would expect in a record year.
But deployment is what matters, and with large deals falling over due to overpricing, Preqin says the deals market needs to find an equilibrium for the recent raft of mega funds to get capital to work.
For venture capital, Preqin suggests activity in the industry is holding up comparatively well, but it remains to be seen how much of that was already in the pipeline. It forecasts slower deal activity going forward as the market begins to adjust to lower valuations.
The Russian invasion of Ukraine and the ensuing sanctions on Russia have left a massive gap in global commodities markets, particularly energy. Preqin reveals that, against this backdrop, natural resources funds raised $51bn in Q2 2022, almost $20bn higher than in Q2 2021.
The latest performance data shows stellar returns for the asset class. However, given that this is geopolitically driven, such performance may not represent a long-term trend.
Eye on the future
Looking forward, Johnson argues that economic recovery around the world is going to need significant amounts of private capital to support business and infrastructure growth. He believes Jersey is well placed to support that in terms of expertise, experience and structures.
Macleod believes debt funds will also become more popular in this high inflationary environment.
“Rising prices, supply challenges and an excess of cash in the economy driven by pent-up consumer demand during the Covid-19 pandemic have all contributed to rising inflation. In response, interest rates are increasing globally,” he says.
These macroeconomic factors are influencing asset allocations, he explains.
“Although private equity continues to drive growth, some investors could be tempted away from potentially volatile PE investments or fixed-rate bond investments, which could leave them out of the money as interest rates continue to rise.
“Instead, they are favouring debt funds, where returns are linked to floating rate loans within the funds’ portfolios, which can generate increased income as interest rates increase.”
Macleod also believes that hybrid funds will significantly increase in popularity, with the turbulent macroeconomic environment and rising interest rates also driving their appeal.
“These are private investment vehicles that have attributes of both hedge and PE funds – thus offering investors the diversification that comes with exposure to public and private markets, with the flexibility to invest in a range of assets and deliver various liquidity options,” he adds.
Fund managers are turning to hybrid funds as a way to innovate and offer sophisticated investors a greater degree of choice, flexibility and returns, according to Macleod.
Meanwhile, a wider range of investors are showing interest in hybrid funds as they seek access to the higher risk-adjusted returns generated by private market assets.
According to data from Preqin, tech companies have accounted for more than half of the total public-to-private deal value in the past 18 months.
Top of the shopping list have been business-to-business software companies Citrix, Anaplan and Zendesk.
Alex Henderson, LP Partner at Mourant, agrees that technology as an asset class is flourishing. “We are not just talking about pure software companies, but any portfolio company operating in an industry that can use technology to become more efficient.”
So is technology almost a defensive play now? “Yes and no,” responds Henderson. “Market conditions have made it harder for companies to create value, and private equity firms have perhaps moved away from the traditional model of cutting costs to be more efficient.
“Technology can actually create significant value in numerous sectors, so there are good opportunities there.”
Henderson notes that larger institutional investors have exposure to both public and private markets.
“It’s not an either/or option for institutional investors; private capital exposure forms part of their diversified portfolio,” he explains.
“Private markets offer an opportunity for strong returns but also some protection from the market volatility that can accompany listed investments, so can’t be ignored by those managing a large portfolio.”
There is a more challenging listing climate right now but, as Henderson explains, when public markets struggle, there is an opportunity for companies to be identified as undervalued, attract PE interest and go private again. Essentially, the markets can feed off each other.
Ross Youngs, Group Commercial Director at Belasko, also sees opportunities for private capital on a turnaround agenda. “When I talk to special situations managers, they tell me that market volatility and geopolitical uncertainty is creating stress within corporates,” he says.
“There are opportunities for private equity to come in and support these companies. I think 2022/23 will be quite an interesting year for new capital raising.”
Youngs says venture capital in tech has been super-strong over the past few years but, unlike Henderson, he sees things cooling off a little. “Tech is at a crossroads now – it has certainly been hot, but I believe we are in a change period,” he says.
Youngs sees cryptocurrency as an interesting proposition. “I think exchange-traded funds are a safer entry into crypto – and there are still a lot of people supporting this space.”
SPACs cool-off
As to what is definitely not hot right now, Youngs picks out special-purpose acquisition companies (SPACs), which he says have suffered a massive uphill battle on recent valuations.
The SPAC boom was fuelled by an extended period of low interest rates, which drove investors to riskier areas of the market to seek higher returns. Last year, the SPACs market was flying, but the economic landscape has changed since.
The real estate market will continue to attract investor interest, according to Henderson, although this interest might come from different sources.
He stresses that while the residential market for homebuyers is a different matter altogether, commercial property and specific prime-location investing will likely see good business volumes.
“Even if interest rates continue rising and suppress some demand, overseas investors with a long-term investment horizon might see lower valuations as a good opportunity rather than a cause for concern, particularly if exchange rates are in their favour,” he explains.
Henderson adds that there will likely be an increased focus from property fund managers on specific investments in the sector, such as data centres and large warehousing facilities.
Jurisdiction of choice
Looking at jurisdictions rather than products, Johnson explains why the Channel Islands continue to have such strong appeal.
“The combined appeal of stability, certainty, experience and premium service quality have all combined to create a really compelling proposition for managers and investors,” he says.
“It’s about being entirely comfortable with domicile choice – and there’s no doubt that Jersey offers the reliability and peace of mind that managers and investors want.
It’s about familiarity too, Johnson argues. “Once managers have established their first funds in Jersey and they have been a success, we’re seeing them come back for second, third and multiple fund launches, and that sort of confidence seeps out across the industry. It’s a reputational dividend.”
But he adds that it’s also about staying relevant and innovative – and the Jersey Private Fund (JPF) is a great example of that, he says.
“This year marks the fifth anniversary since the JPF was launched as a structure for limited numbers of sophisticated investors,” he says. “Since then, it’s grown to become really the vehicle of choice for institutional investors and a great vehicle for co-investment among family offices.
“It’s a fantastic example of Jersey showing innovation to meet a very real demand in the market.”
Meanwhile, Johnson adds, the incentive is to maintain that approach in the ESG sphere, with Jersey Finance launching its sustainable finance strategy last year and the Jersey Financial Services Commission introducing new codes of conduct around disclosure and reporting to combat greenwashing.
“It’s a clear indication of the islands’ intent in the growing ESG space,” he concludes.