BCG: SWFs and Pension Funds Set to Reshape Private Markets
BOSTON—Principal investors—including sovereign wealth funds, public pension funds, family offices, and endowments—play a critical role in the investment world. Evolving expectations, a shifting interest rate environment, and the need to manage increasingly large asset bases for performance and for national and societal impact are transforming how and where these investors allocate capital.
As principal investors assume a more prominent role in the investment landscape and in society more broadly, their relationships with the general partners (GPs) that manage much of their capital are changing, too. To succeed in this new environment, principal investors and GPs must recognize the influence of current market trends and adapt to the shifting dynamics that drive investment strategies across asset classes.
These are among the findings of Boston Consulting Group’s new Global Principal Investors Report 2024, which looks in particular at the subset of sovereign wealth funds (SWFs) and public pension funds (PPFs).
Combined, these entities manage $36 trillion in assets under management (AUM), with a compound annual growth rate of 6% anticipated through 2030. SWFs’ and PPFs’ allocations to private markets have increased by an average of 10% per year over the past decade, driven by considerations of portfolio diversification and the potential for higher returns. We estimate that these principal investors now control up to 70% of all private AUM globally.
“Principal investors are becoming increasingly active in shaping private markets,” said Benjamin Sheridan, a managing director and senior partner at BCG and a coauthor of the report. “Their evolving priorities are not just transforming asset allocation but also redefining the broader capital ecosystem.”
Five Emerging Megatrends
The report identifies five pivotal megatrends that are transforming these key principal investors’ strategies and roles. These trends are reshaping investment priorities and driving broader changes across private markets.
Fundamental business growth attains renewed prominence. Faced with lower returns from traditional strategies, principal investors are focusing on fundamental business growth and margin optimization to deliver value. As deleveraging and multiple expansion lose their potency, operational improvements and organic growth are becoming critical drivers of returns. This trend is particularly disruptive for private equity, which has historically relied on financial engineering for performance.
Co-investing and direct investing build momentum. To boost returns, reduce fees, and gain control over their portfolios, large principal investors are enhancing their co-investing and direct investing capabilities. By adopting advanced analytics and deal-structuring capabilities, these investors are moving away from passive capital provision toward active deal participation.
Geopolitical decoupling shapes capital flows. Geopolitical tensions are prompting principal investors to redirect capital flow. More investments are taking place in emerging markets in Southeast Asia, Africa, and the Middle East. This shift includes aligning investments with national development goals and forging strategic partnerships to navigate political complexities.
Double-bottom-line mandates drive resilience investments. The rise of double-bottom-line funds reflects a growing focus on investments that combine financial returns with societal impact. Many principal investors, particularly SWFs, are prioritizing investments that align with national development goals, climate initiatives, and sustainable growth. This approach enables them to leverage lower costs of capital and longer-term horizons to drive economic and social progress.
Large principal investors play an increasingly visible and public role. As they manage a larger portion of global investments, these investors attract greater public and media scrutiny. The intergenerational nature of principal investors’ mandates makes them more closely attuned to long-term risks such as climate change. At the same time, owning large stakes in companies across a wide range of sectors gives SWFs a unique opportunity to drive the energy transition through active and responsible ownership.
A Collaborative Path Forward
The evolving relationship between principal investors and GPs is also shaping the future of private markets. For principal investors, the path forward depends on their strategic vision and willingness to build internal capabilities or deepen partnerships with GPs and external advisors. For their part, GPs must adapt by offering principal investors more customized investment structures, aligning their incentives with investors’ long-term strategic goals, finding distinctive ways to generate alpha, and demonstrating leadership in sustainability goals.
As the market landscape becomes more complex and competitive, the ability of principal investors and GPs to collaborate effectively will determine their success. Whether through platform partnerships, joint ventures, or new investment vehicle structures, the key to thriving in this new environment is to build relationships that align on both financial and nonfinancial goals. Ultimately, these collaborations will define the roles that principal investors and GPs play in achieving their economic and societal objectives.
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Take the time to download and read this BCG report here.
I want to thank Andrew Claerhout, OTPP's former head of Infrastructure and Natural Resources who is now partner at BCG, for bringing it up to my attention.
There is no way I can cover everything in this report but some things caught my attention.
First, while Private Equity has delivered the highest ten-year returns, Infrastructure has outperformed in the recent past and it and Private Credit have the highest ten-year growth rates:
The report discusses why the macroeconomic rotation into private assets has slowed temporarily:
The macroeconomic rotation into private assets has slowed temporarily. In 2022, distributions by GPs fell to historic lows, as GPs faced challenges in exiting investments at attractive valuations. (See Exhibit 6.) The shortfall in distributions created liquidity pressures for LPs. In some cases, private assets exceeded LPs’ target allocations for the asset class as a portion of AUM as the valuations of other portfolio segments declined. The pressure was particularly acute among PPFs, many of which must abide by fiduciary limits on asset class allocation. Some PPFs responded by reducing their exposure through secondary sales, while others slowed or halted new GP commitments to rebalance their portfolios.
The median holding period of buyout-backed portfolio companies reached 3.3 years in 2023, up from 2.7 years in 2015. This duration is likely to increase further over the next two to three years as exit markets remain subdued, exerting continued pressure on internal rates of return (IRR).
We expect a return to a stable interest rate environment to reignite the super-cycle shift toward private markets. Although recent challenges may lead some investors to believe that the golden age of private assets has ended, this perspective is short-sighted and overlooks key principles of portfolio construction. Historically, private assets have outperformed public markets while providing substantial diversification benefits. Allocating a well-considered portion of AUM to private assets will continue to enhance portfolio performance and risk-return efficiency.
Industry conversations confirm that, despite some short-term rebalancing, the long-term trend in favor of increasing allocations to private asset classes will continue. Some larger funds, including Temasek, the Caisse de dépôt et placement du Québec (CDPQ), Mubadala, and the Canada Pension Plan Investment Board (CPPIB), have demonstrated that allocations of more than 40% can generate attractive returns. Most funds, however, are significantly less exposed to private assets, leaving room for growth. If principal investors across a broader range follow suit and allocate just 25% to 30% of AUM to private markets, the private assets industry could expand by 50% by 2030.
For me, one of the more interesting sections of this report is the shifting GP-LP dynamics:
I note this
As the largest principal investors put more capital to work in private markets, the GP-LP relationship has become increasingly complex. One major factor has been the largest GPs’ rapidly growing AUM. For example, CVC raised a record-breaking $29 billion fund in 2023. Their massive size gives megafunds greater negotiating strength, and as a result principal investors must now commit larger amounts to each megafund manager to influence terms.Still, relationships between large principal investors and large GPs have been remarkably durable. The largest GPs continue to be essential partners for deploying AUM at scale across a range of strategies. This relationship has led to a bifurcation in bargaining power: the largest principal investors maintain their role as important anchor investors for the largest GPs, while smaller principal investors must accept less favorable terms for access to the same GPs.
The smaller principal investors will focus on mid-market funds and by the way, an increasing number of larger ones are also focusing on mid-market funds where they can negotiate better terms, governance and more transparency.
Alright, take the time to download this report here, it's well worth reading.
Below, Canadian Steve Balaban talks about sovereign wealth funds in private equity with a focus on GIC and ADIA (Abu Dhabi Investment Authority). It's two years old but well worth watching and see how active GIC is in private equity (followed by CPP Investments).
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