For institutional investors, private markets are still worthy of investment despite soaring asset valuations, a new report from investment manager BlackRock shows.
“Years of easy-money policies have inflated valuations across capital markets,” according to a BlackRock Investment Institute report. “The result: Return expectations have been steadily compressing.”
However, BlackRock noted that there are still reasons to invest in private markets.
“We believe adding private markets to a portfolio can help broaden the opportunity set, increase return potential and enhance portfolio diversification, while in some cases adding a dose of inflation protection,” according to the report, which will be released on Tuesday.
The firm identified some niche areas that still have return potential, including certain areas of private credit, private equity, infrastructure, and real assets that have huge potential for returns.
“The key to successful private market allocations at this point in the cycle? Identifying pockets that are less exploited and still have the ability to deliver either meaningful total returns or steady income,” the report said.
For example, traditional syndicated loans carry a hefty price tag right now, according to the report. In response, BlackRock suggested institutions focus on senior lending, opportunistic credit, and middle-market credit in Asia and developed markets.
“New capital rules are forcing banks to deleverage, making it more costly to hold illiquid paper and to make ‘middle-market’ loans,” according to BlackRock. “The result is a much broader opportunity set for private investors.”
The firm also said it is looking at private-equity investing with a selective eye, preferring pre-bid acquisitions focused on roll-ups (buying companies in unpopular or fragmented industries to achieve economies of scale), corporate carve-outs (divestitures of non-core businesses), or minority investments (including private investments in public equity) rather than traditional competitive deals.
The firm sees opportunities for private-equity deals in sectors like logistics, healthcare, and consumer discretionary. In real estate investing, BlackRock thinks warehouse and distribution assets are valuable.
As for infrastructure? The firm is seeing opportunities high-yield debt investments and other “less-explored areas,” according to the report.
Private capital in these markets, according to BlackRock, is lacking, because valuations on core assets are high. But institutions could take advantage of areas such as senior lending, opportunistic credit, and real assets as alternatives to traditional equity or debt investing. These investments offer institutions greater diversification and less correlation to the public markets, according to BlackRock.