95% of private asset transactions are smaller in size and take place in less efficient markets. (Photo: Shutterstock)

95% of private asset transactions are smaller in size and take place in less efficient markets. (Photo: Shutterstock)

The growth and acceleration of the private asset market is leading investors to consider new risk premiums. In place of the now obsolete illiquidity premium, the ability to access niche markets in a complex investment universe provides alternative sources of return.

The increase in fundraising in the private equity market is leading to an accumulation of uninvested capital. This trend has been noted by global investment manager Schroders Capital and is predicting higher valuation inflows as a result. This, in turn, could reduce expectations of private asset performance.

“Fuelled by monetary and fiscal stimulus as well as strong past performance, interest in private assets has risen strongly,” says Nils Rode, chief investment officer at Schroders Capital. “This has pushed fundraising levels in some regions well above their long-term trend,” he adds.

The European market, for example, saw a sharp 240% rise in venture and growth capital fundraising last year. This was mainly due to the emergence of the so-called unicorn startups, private companies with a valuation of over $1bn. Annual fundraising for infrastructure in the US and Europe has also increased by 170% over the past five years.

The end of the illiquidity premium

The growth in fundraising has been accompanied by an increase in the complexity of the industry, which has made it more attractive for investors. Asset managers also tend to increase the size of their funds. As a result, the average private equity fund has grown by 48% to $336m in five years, according to investment data company Preqin.

As a result of the growth of the private equity market, the illiquidity premium is being reduced. As private assets become more popular, their liquidity increases.

However, Schroders Capital highlights that the illiquidity premium is not the only advantage that private assets have to offer. There is also a complexity premium which requires that a particularly complex situation arises in terms of access, risks and opportunities or when rare skills are deployed to select, negotiate, develop and exit the investment.

Skill rewarded

“The differences in skills are generally more pronounced in private assets than in listed investments,” explains Nils Rode, noting that “access to information and knowledge is more limited”. This is especially true for asset acquisitions with smaller deal sizes in more specialised and hard to access markets--the so-called “long tail” strategy. This creates opportunities for the most qualified market participants.

According to Schroders Capital, 95% of transactions are smaller in size and take place in less efficient markets calling for an asset diversification approach. Given its high volume of transactions, the long tail offers a wider, more complex and more diversified investment universe.

With this in mind, Schroders Capital expects the private asset industry to move into a new phase called “private assets 4.0”. The emergence of the complexity premium and portfolio diversification is enhanced by the impact dimension of investments and new liquidity options.

This story was first published in French on . It has been translated and edited for Delano.