Private markets hold the key to sustaining corporate growth

Increasingly, the capital to fund corporate growth around the world is coming not from public markets, but from private ones. Private equity firms, venture capitalists, institutional investors, hedge funds, direct lenders and fund managers have all gained attention in recent years – and conditions are ripe for this trend to accelerate further.

The growth of private markets has accelerated since the 2008 financial crisis, outpacing that of public markets, with assets in global private markets now standing at around $10 trillion.^[1] And private credit has been building steadily as an asset class, reaching an estimated $1.25 trillion as of June 30, up from just $400 billion 10 years ago.^[2]

Investors have been drawn to private markets by the prospects of high yields, especially during the extended period of historically low interest rates that lasted until early 2022. Companies – and startups in particular – have also preferred to access funding through private markets because it allows them to avoid the disclosure requirements, investor calls and activist shareholders that come with going public.

Though private market activity has dropped significantly in 2022 on inflation and recession concerns, it has held up far better than the public markets. Given that the global economic outlook is likely to remain weak – and possibly deteriorate further – private markets can become an increasingly crucial source of capital to sustain corporate growth.

Sailing into the wind

Despite the weak macro environment, private capital strategies are expected to double their assets under management from $9.3 trillion in 2021 to $18.3 trillion by the end of 2027, according to data provider Preqin.^[3] To be sure, this marks a slower growth rate compared to recent years, but nonetheless shows noteworthy resilience in the face of surging borrowing costs.

The supply of funding for private markets will come from investors looking for returns that are not correlated to public markets during a protracted period of market weakness and heightened volatility. On the demand side, a variety of companies are strapped for capital in light of tight liquidity conditions.

Preqin highlights the potential of retail investors, who are still under-allocated in the asset class, to drive a new leg of growth for private markets. Global private equity fundraising in the coming years is not expected to match the 2021 high of $561 billion, but assets under management will continue trending up. Private credit will also grow more slowly, though that will be enough to see a near doubling from current levels to an all-time high of $2.3 billion in assets under management by 2027.

Looking for security

Given the pervading economic and geopolitical uncertainty, providers of capital are eschewing unsecured loans in favor of asset-based financing.

EquitiesFirst has a two-decade track record in serving this segment, providing securities-based financing to professional, accredited and otherwise sophisticated long-term investors looking to unlock the value of their equity portfolios without sacrificing the upside potential of their underlying holdings. The flexibility this offers is especially valuable in volatile periods characterized by tight liquidity, when investors may be reluctant to sell their long-term equity investments at deep discounts.

Securities-based financing can also have a positive impact on stock prices. Our analysis of relevant disclosures in Hong Kong found that the price of underlying shares rose an average of 9.6% the month after the announcement of equity-collateralized loans.

And there could be good reason for this. The EquitiesFirst model arguably creates a better alignment between the interests of the funds provider and the investor than other forms of financing. By structuring our financings as agreements to sell-and-repurchase the underlying securities, we essentially function as a funds provider as well as a shareholder. We do not short-sell or lend those shares to third parties, effectively taking long positions in them.

The headwinds currently buffeting the global economy have created an ideal environment to demonstrate the value proposition of securities-based financing. Though it remains a niche component of the broader private capital market, this product is primed to take a bigger piece of the pie by proving its mettle at a time when other funding options are in short supply.

[1] https://www.economist.com/special-report/2022/02/23/private-markets-have-grown-exponentially

[2] https://www.pionline.com/alternatives/private-credit-investors-turn-asset-backed-loans

[3] https://www.preqin.com/future-of-alternatives-2027

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