Our recent 2024 fundraising predictions survey paints a picture of optimism, with an overwhelming majority of respondents expecting to see some relief from the macroeconomic challenges of the last couple of years.
A majority of fund managers we surveyed are intending to increase fund targets despite most respondents thinking the market will only get more challenging in 2024. The perceived challenges may be due to a numbers game—a majority of respondents said they predict to see an increase in the number of new funds in 2024 as compared to 2023. While conditions might be improving, this increased competition for investor dollars comes with a different set of challenges. However, encouraging data from Goldman Sachs Asset Management finds that nearly half of LPs hope to increase allocations over the next two years.
2023 saw a thriving secondaries market and many respondents in our survey are going into 2024 intending to offer new strategies such as co-investments to address fundraising challenges. It still appears to be somewhat of an investor’s market, but the ability to offer favorable terms to certain investors may have been curtailed as an effective strategy by the recent SEC private equity rule changes—the juice may not be worth the squeeze post-rule updates.
ESG continues to be both front of mind and create split opinions, with market competitiveness being predicted as the primary driver of ESG adoption. However, opinion is split about whether it might become industry-standard to collaborate with portfolio companies to achieve ESG goals on anything more than a case-by-case basis, suggesting there is still a need to develop robust and repeatable metrics to measure ESG.
Technology—particularly AI—is still very much in focus for fund operations. While a quarter of respondents see implementing new technology as having a negative impact on fundraising, a majority believe that AI-driven data security and privacy tools will have a significant influence on fundraising strategies, followed closely by blockchain and tokenization.
In this webinar, we talk about all this and more with our panel:
- Arun Sundaresan - Director, WUSTL Investment Management Company
- Ore Adegbotolu - Head of Markets - US, Aztec Group
- Tim Flannery - CEO and Co-Founder, Passthrough
Watch the full video below and read on for a summary recap.
Tim: The most striking data point from the 2024 predictions survey is that over 80% of respondents think the macro environment is going to improve next year. The first question I have for you is: what have you seen happening in the macro environment? Does that data match what your expectations have been? And how do you actually see that impact fundraising?
Ore: From our perspective, there's a number of dynamics at play here. On the one hand, investors have a number of factors which are inhibiting them: the macro environment which has largely been unsupportive, though some of those headwinds are starting to work their way out. Inflationary figures were at elevated levels for a number of months. Interest rates are starting to stabilize now, but for a period of time they shot up quite dramatically. It does have an impact on the return profile when you're seeing the interest rates at an elevated level and with inflation playing a factor in the markets more broadly, and upheaval in the banking market, which spooked the industry. And we've seen a tightening of underwriting standards. All of those things have made some of these projects less viable.
As you project forward, some of these factors are starting to work their way out, but they have had an impact on fundraising. From the conversations we've had, investors are more selective in terms of the type of projects that they are going to participate in, and they've always got the option of investing into a mega-fund manager. So GPs have to be a bit more creative when it comes to the design of the product and also the terms that you're offering. Those are some of the key factors which I've observed and from what our clients tell us.
Arun: I think that's spot on. The data points that you mentioned, it’s interesting to note both the extension of the timeline required to close funds today and also that there's less appetite for fund managers to start funds, I think those are the two main data points at play. And if I could give a 30,000-foot view, I think one of the main reasons is that over the course of the last few years, private market allocations of a lot of institutional portfolios are at all time highs as measured by the percentage of the total portfolio. You have investors that are well north of 50% across venture capital, growth equity, buyout, real estate, and natural resources.
There's a conscious rebalancing effort to focus on historically larger areas that have shrunk as a total percentage of the portfolio, whether that's in public markets or asset return. Treasury's at 5% today, for a lot of investors that's halfway to their overall cost of capital for what they have distributed back to their institutions. I view it broadly through the lens of rebalancing. Unfortunately, these rebalancing efforts take multiple years because there's a lagged effect as funds deploy capital, as funds distribute capital and liquidity gets harder, especially environments where the cost capital has increased so much. I think these are cyclical issues and we can talk about individual aspects of the market where that might be less true.
Tim: That matches everything that we hear too. We talk almost exclusively to managers that are going out and raising, and many of them changed their plans in 2022 and 2023 because they read the tea leaves and they understood what was coming and chose not to raise. Even though we have the challenges of LPs rebalancing their portfolios and being very selective about what projects they're investing into, there's only so long that you can wait on the sidelines and not raise. It sounds like that's driving people back to the market. When you start to take a look at what that means for how long people have to be in-market: if it's not the most opportune time to go out to the market, but you still have to go out to the market, then you're going to be in-market longer.
Tim: To that point, people are coming back to market with larger fund sizes. In fact, two-thirds of our respondents are increasing their target AUM, and half of all respondents said that those timelines were longer. PitchBook today actually just released a report where they said that the average time to close for a fund in-market is now at its highest since 2012: the average time to close is now over 15 months. If it's harder to raise right now, why are fund sizes actually increasing if it means you have to spend longer in-market?
Ore: It's an interesting contradiction. From what you are hearing, investors are increasing the allocation that is going to the private markets in general. Quite routinely, the large pension funds are looking to deploy more into the private markets. The retailization is also starting to take hold. And particularly at the larger end of the market, larger managers are trying to create vehicles which reduce the barriers for retail investors to come in and participate in these assets. But we're also seeing that the negotiation process with LPs is longer and much more rigorous, they're asking more questions and the due diligence is taking longer.
Ultimately, you're seeing two trends. Fund managers are looking to make initial closes sooner, so they're looking at more closes in order to raise the funds themselves, and they're thinking about creative ways to get that investment in the door. So those factors mean they're talking about being in perpetual fundraising mode, which is that they'll raise $10 billion. Previously that could have been done in two closes, now they’re doing it in five or six. So that's an interesting and noteworthy dynamic. What it also means is the infrastructure to support that has had to evolve because they're on the road a lot more, they're thinking about channels in which they can access these pools of investors and they're also thinking about how technology can support that.
Arun: One of the things that we believe is that as fund sizes grow, we expect that fundraising should be harder and should take longer, and that's for a few different reasons. If GPs grow their fund size, there has to be candid conversations around what that implies for go-forward return expectations. Depending on the scale of the increase in the fund size, I think the relevancy of the stock track record, you might lose a lot of its value.
There are a lot of different ways to parse through that. In some cases, if there's a massive increase in fund size, we at WashU would consider that to be a fresh re-underwrite. It's not the same manager and fund that we backed last time, this is something we have to look at with clear eyes. It could also be that there's a growth in fund size due to the decision to add a new GP or to grow the team or to introduce new LPs into the fold. So we need time to build conviction in those newer relationships that we might be less familiar with.
Independent of the economic environment that we're in, our base assumption would be that as fund sizes grow and as firm sizes grow, the fundraising path should take longer. What's perhaps different about the last few years is that hasn't been true consistently. It's been true over the last 12 months, but if you rewind the clock to 2020 and 2021, fundraising velocity and the time coming back to market was incredibly quick. So these things tend to overshoot in either direction and it's just been a really strange period these last few years, but what we're feeling more now is a return to normalcy in a lot of ways.
Ore: One other thing to add to that: some of the event-driven activity which would've necessitated some of this usage of the dry powder hasn't materialized. So there’s somewhat of a clog-up starting to take place. Dry powder is at record levels. Once you see some level of return to the equity capital markets, M&A activities to return somewhat to the average of what we've seen in the five years prior to COVID, those will start to see some of that excess dry powder being put to work and then you'll start to see more of a normalized fundraising environment.
Tim: There’s lots of capital on the sidelines. We'd love to be able to go call it, but first you got to go give some money back before you go call some more.
Tim: So that's fund managers in general. Let's talk a little bit about new managers and what they should expect in this coming year. Historically, at times when it's tougher to go raise and you've seen a contraction in dollars and funds formed, you actually see a greater percentage increase of new fund managers in terms of total number of funds formed. Typically they're going out because they've been at a shop and they decide, "You know what? It's a tough time now. Why wouldn't I just go up and hang my own shingle now? It's better for me to go do this today, I've got less to lose." How do you see the market for emerging managers or new managers, people splitting out from safer havens, how do you see that playing out in 2024?
Ore: I would say it's harder now than ever before because the hurdles that they have to overcome to get that initial investment are going to be pronounced, but that doesn't mean it's going to be impossible. We're going to see, as macroeconomic environments become more favorable, some of those fundraisers become more successful. If they're more creative, it does give them the opportunity where they don't have the track record, but they have the agility to construct their product in a more creative way than perhaps they may have been constrained in their larger shops. That's going to be a trend which sees more of them come to market. In order to do that, they have to spend a lot of time not just in the product design but all the way through into their operational setup to make sure it's top-notch because LPs are more discerning and the decision to invest or not could be down to the small factors. They really have to make sure each element of that value chain is addressed and they come out looking as professional as possible.
Arun: One of the biggest benefits today of being a new manager is that you're not dealing with the baggage of problem children in your portfolio from prior funds, and that you're able to attack investing and the top of your funnel from an idea generation standpoint with a full head of steam. It will prove to be a tremendous vintage of GPs that are launching funds for the first time who've proven to be domain experts in the asset classes and strategies that they've operated in and have ideally spent a lot of time training at a well-reputed firm with great mentorship.
The challenge will be distinguishing oneself within the different opportunities in private markets. There's going to be more of a challenge to be a new manager and differentiate yourself in an area like growth equity today, given the abundance of capital that's been deployed between the B and E stages over the course of the last handful of years than it might be to be a very early stage pre-seed or seed investor or in more forms of buyout that might be more focused on lower middle market.
To paint with a broad brush, that's one of the things that we get really excited about is folks who can really start from a blank sheet of paper today and use their full resources to find great investment ideas. But I think the devil is in the details a bit in terms of how true that is depending on different segments of private markets.
Tim: It's no surprise that if you're raising your first fund, even if you're raising a decent sized PE fund and you've been at a well-known PE shop and you've had a great portfolio while you were there, it's still difficult to go break into the institutional investor segment because they have limited slots to add managers in a given year. Some groups do have dedicated programs though to find new managers and cultivate them. How do those new manager programs shift based on macro and everything that's going on around it? Are they reactive to it or is it just that's where people have the discipline to consistently add new managers in times like this?
Arun: It's harder to say definitively because we don't have an explicit emerging managers program. I can tell you how we approach it. Every manager in our portfolio has to compete for capital. Someone spinning out for the first time has to compete for dollars with other people that have been in the portfolio for varying degrees of time. We think that's the healthiest way for us to maintain competition for capital across our portfolio.
That said, from an emerging manager standpoint, the biggest benefit is just keeping your top-of-funnel fresh and being able to start productively identifying relationships with people at the earliest stages of their firm creation. The reason that's powerful is that's the point in time in which you can most likely craft and differentiate a relationship with the potential GP. It might not even necessarily have to be fund one, but even fund two. Being early can be meaningful and differentiating in a lot of different ways.
When you have these types of points in time when the opportunity costs to raise a new fund or to launch your own firm after a long time at another place, that's the time you want to lean in. Whether it's a $5 million check or a $50 million check, it tends to be the same amount of time and attention you want to give that investment.
Tim: Let's talk about the fundraising process itself. Arun, I'll come to you on this again, but if you wouldn't mind giving the typical, "Here's what a process looks like for people to go raise with an institutional investor," and then my question is, yes, here's the standard of it, but how is that evolving and how is that changing? Is it in reaction to what the market context is or just the increasing sophistication of being an allocator?
Arun: I'd say a typical process would be to identify areas of the market that you're interested in and identify people that you think would be great partners. The closer that those two Venn diagrams overlap, the more time you want to spend with them. Initially, I frame that into the two segments of interesting market opportunities and interesting prospective partners. A diligence process around partner selection can take a variety of forms and it really does depend on the sub-asset class that you're focused on.
For us, an analysis of a first-time venture capital manager will be quite different from a seasoned buyout veteran. In the case of a buyout veteran, we'll spend a lot of time understanding case studies of historic investments, ways that they've added value, their ability to consistently source and transact deals in creative ways, their ability to exit thoughtfully as well. Whereas for a venture manager that might not have a long track record, it's really about understanding if they have advantageous access and is there some unique ability for them to analyze investment opportunities in a differentiated way based on their background, based on their network that we think can be consistently repeated over time.
We really try to shape our diligence process to be most relevant for the partner that we're speaking with, that's most changed for us over time. When we deal with folks that typically operate on more mature business models, like someone who does buyouts, we'll spend a lot of time on case studies to really understand the businesses in which they've invested in and why those might be good businesses and good investments. And on the venture side, we spend as much time on the assets, but it's as much of a focus on understanding the quality of someone's network, the quality of their domain expertise, and the quality of the right to win a deal. If you're an exceptional entrepreneur, an exceptional operator, why should you sell a piece of your business to this investor at a really cheap price? I think that's the question we want to answer.
Over time we've tried to do a better and better job of structuring our diligence process to be direct, light touch, but also tailored to the individual operator that we're speaking with. And we try to be very transparent with the folks that we do diligence with that we do a lot of work on the way in, but we try to be a meaningful long-term investor with them. As a result, we hope that leads to really productive conversations over a 12 plus month period before making an investment.
Tim: Let's talk about technology and how it's impacting fund managers during the fundraising process, but also how it's impacting post-investment too. How is AI impacting the way you can help facilitate the relationship between LPs and fund managers, if at all? Where are you seeing other things that are really changing the way that managers are working with their LPs?
Ore: There are a number of factors. You can talk about machine learning and AI in slightly different ways. We've been quite thoughtful ourselves in terms of: what tools can help our clients with better insights as it relates to understanding portfolio performance? How can they benchmark their fund performance versus their peers? Plus some of the more routine tasks which are critical in the fundraising process itself, like investor onboarding, the AML and KYC screening. These are historically manual processes, which generated quite a bit of friction throughout the process. Looking at how technology can intervene there to remove some of that friction is going to help that process.
We're also seeing technology reduce the barrier to entry for investors, like investor portals, to allow people to invest via a digital marketplace. It is changing the way in which people look at fundraising. The traditional method of going on road shows to raise capital can be supplemented by technologies which allow you to open up your investments to a wider pool of investors. AI is also being thought about in terms of injecting it within your system to proactively execute processes to help in terms of the distribution of documentation that needs to go out to investors and helping the overall fund management of the fund throughout its life cycle. There are a number of use cases to enhance the overall operating model for a fund manager as they go through the fund life cycle.
Arun: The post-investment process is where we've observed the most opportunities for improvement. We're focusing more of our time on understanding the look-through exposures we have across the portfolio. Endowment portfolios are typically invested across many different managers, many different sectors, many different regions, many different currencies, and it can be a massive amount of work to really efficiently streamline, put it all into one dashboard to understand just where your capital is invested. In a very granular way, it's a simple but complex problem.
We’re increasingly incorporating that closer and closer to the front end of our diligence process to truly get an understanding of saying, "We already have X percentage of exposure to one sector. We're spending time with a manager that's in that space, it just doesn't need to be the most important thing for us to do unless we feel strongly that we're going to shift some capital from that existing sector to fund that manager."
There's a greater push for transparency overall. Over the course of the industry's history, there's been less and less comfort with blind pool type investing and more and more focus on transparency, how potential assets fit into the existing portfolio on a very granular basis. I think that‘s part of the reason that co-investing is getting increasingly popular. But greater transparency, more investment organizationally in terms of technology and systems and a greater focus on just driving real-time insight into how the portfolio's positioned is our biggest effort.
Tim: There's a reason that Passthrough exists: because we see there's an opportunity for huge efficiency in investor onboarding and KYC. But there's limits to what we've seen. AI and LLMs can transform a lot of the operational processes, but, Arun, I think you hit on a couple of big points there. Where are you going to see the best return? Is it going to actually be in reducing headcount and getting efficiencies? People are using this to figure out how you can read documents and things like that, we experiment with it every single day, some of the fun tools that we get to run across are amazing. But the great question is going to be how can this actually be used to improve returns? That's ultimately what it comes down to because if you save a little bit on headcount, great, but if you can bump things up by 75 BIPs, that's probably going to be a little bit better.
Tim: Let’s talk about the regulatory environment. What trends are you seeing there? How do you see some of the things that we've watched over the last 6-12 months impacting firms in 2024? There's changes to Form PF, the rules around transparency in terms. But what are the trends that you really see coming in and how do you see it impacting managers and just the private markets broadly?
Ore: Some of the changes that we're seeing start to bring the US regulatory environment closer to what we've seen in other regions. If you think about the SEC's PFA ruling, which I appreciate is in the courts and is being challenged, the whole premise of it is: how can you protect investors? How can you generate greater transparency? We have seen from our experience in Europe that that's what the regulators have sought to do for a number of years. There is a recognition that the direction of travel is going to move towards what we're seeing in other jurisdictions. Similarly, The Transparency Act is also designed to safeguard the system and safeguard all participants and provide greater clarity in terms of what is happening.
The regulatory environment is going to be strengthened and my candid advice to fund managers is where you can, try and get in front of it because—whilst some changes might be rolled back—the general trend does point to the fact that regulation is going to be strengthened, particularly as we are going to see more and more retail investors being involved in private market activity. If you are trying to create products that are going to attract less sophisticated investors, it's incongruent to believe that you're not going to see a regulatory environment strengthened in anticipation of the increased participation of these investor classes, similar to disclosures in the public markets.
Tim: With KYC, Europe has been leading the charge on this for quite some time, and the US just woke up the last couple of years and realized we do need to do this more than just once when we just admit an LP into a fund, maybe we do need to actually drill down and get all the beneficial owner information. Which actually creates some challenges for the WashUs of the world. They're trying to figure out how they are going to navigate giving over the sensitive information of their university officers in the face of these requirements. There's a lot of tension in that today, even in Europe.
Tim: I'm moving on to some questions from the audience. How are institutional investors evaluating fund managers on ESG portfolio company data? How does that factor into the evaluation process, whether it's specific to WashU or it's more broad what you see in your peers? How does that change if somebody hasn't done it in the past and they're trying to build something from scratch? How does that impact LP's evaluations of fund managers?
Arun: It's such a broad category. It's always been a component of how we evaluate a manager's research process because of the three factors that it ultimately touches. Whenever we're doing work on a public markets investment or private markets investment, having a clear understanding of how those three attributes factor into a diligence process has always been key. There are different ways that it gets presented. For folks who invest in areas like activism where governance is a key way to unlock company value, that research process on our side is different from others who might be investing in more environmentally-sensitive sectors and industries.
We filter most of our process through understanding around a certain number of impact areas how a portfolio is positioned to benefit or to be challenged by areas like financial inclusion and environmental awareness. While we don't have a very quantitative approach to scoring these things, because we think that that can lead to some bias in data and evaluation, it's a core part of all the discussions that we ultimately do have with fund managers. What we typically would say is that we don't have an explicit mandate to tilt or weight our portfolio along a certain dimension for ESG or to consider ESG investments as a separate part of our portfolio from other investments, but instead to ensure that the investments that we do have are all evaluated on a similar basis for the impact areas that we as an institution care deeply about.
Tim: How do you see that operationalized successfully? How do you see fund managers working with your team to make sure that if they're committing to doing things and they're able to report on things and manage the process?
Ore: From an operational standpoint, it's useful to talk about the distinctions that we see from Europe to the US, and certainly in Europe investors are far more in general activists in terms of looking at ESG metrics as a gating item as to whether they're going to invest or not. One of the big challenges that managers have today is sourcing that data and being able to rely upon that to report on a consistent basis. We've been looking at ways we can partner with our clients alongside our ESG specialist partner to help them get ESG reporting in a more consistent manner. But in conversations I've seen in the US, it is a divisive topic, certainly at GP levels, insofar as how they think about ESG and how they might incorporate that as part of their overall strategy.
Tim: Let’s talk about geography. What about in more growth markets? What are your expectations for what fund managers are doing in growth markets, in LATAM, in Asia, et cetera, in 2024?
Arun: Generally speaking, we've observed folks spending most of their time in Asia and focused on places like Japan and India and de-emphasizing locations like China. In Latin America, there's been a greater focus on Brazil, which has gone through a really aggressive monetary policy cycle there that seems to now be normalizing and in some ways ahead of the US, but where there continues to be a tremendous amount of political change.
The other market that we spend a lot of time on that's maybe less emphasized is Africa. Within Africa, Nigeria, Egypt and Kenya being the primary ones, each of which are very interesting for different reasons. It's interesting to observe that Asia is probably the part of most benchmarks, I think it gets a disproportionate amount of attention relative to Africa and Latin America, but we've generally observed a consensus trend away from China and into India and Japan that we find interesting. In places like Latin America and Africa, the growth opportunities are different because they tend to be broad-based amongst very many different countries with many different political and economic risks. But we still think that there's going to be tremendous demographic growth over time that will support the economic profits of a variety of different industries.
It's also interesting to observe now that these markets generally have underperformed the US over the last decade, and historically that hasn't always been the case. We're also at a point now where the US dollar is as strong as it's ever been, and a lot of these currencies have struggled. So we think it's a really interesting place to spend time and a place where, as folks that primarily try to do their best to find really talented investors globally, we've been spending a lot of our time outside the US and across those markets as well.
Tim: The last question is about data. They've seen data requirements changing, whether it is around collecting ESG data, or collecting other information. What are the new pieces of data that the LP community is trying to pull from the GP community, and how are those data needs going to continue to evolve over the next year?
Ore: I'd flip it back to say it is not so much new data, it's getting the data that they already have in a more consistent fashion. If I had a dollar for every time somebody said, "We're trying to root out our golden source," I'd be a very wealthy man. So being able to validate the data points that are being generated across their investments and across each of their stakeholder bases and being able to validate that, that's going to be the first challenge that they're going to have to overcome.
Being able to access the data has also been a challenge. Accessing the data as frictionlessly as possible and being able to sort that data in a smart way. The generation of PDFs has created as much of a challenge as it solves. Then overlaying analytics to be able to help managers make decisions in a far more agile and nimble way than they've ever done before. Those are the next level challenges that we're seeing, certainly in the conversations that I've had, our clients are trying to navigate.
Then, of course, as they get the base level challenges resolved, then they're trying to be more ambitious in terms of the types of data they can get this access to. So it's a growth in prevalence of non-quantitative data points and being able to capture those, group those, sort those, analyze those in a more thorough and forensic way than they've perhaps ever been done before. But the first challenge for them has been, how do we get better at collecting the data? How do we get that faster? How can we do so in a more frictionless way? How can we avoid having manual intervention to arrive at that data? And how can technology underpin that drive from one end state to the other?
Tim: We had another question pop up while Ore was giving the exact right answer. As a manager with part of our allocation strategy focused in an area of conflict, Israel, Arun, would you as an LP view this as detrimental as it can be a polarizing topic specifically in media and politics?
Arun: That's a very good question. The short answer is no, we do not view it as detrimental. We spend a lot of our time on understanding the investments that make a portfolio, and what those investments are on a bottom-up basis. What are the companies? What are the assets that are in the fund? Why are they interesting? Why are they good investments? We really try our best to disassociate from some of the media and headlines that are associated with investing in conflicted regions, whether it's Israel or Eastern Europe today.
For us, and I think it varies from LP to LP, but we understand that if we focus on understanding assets and companies at the bottom-up individual level, we'll be best positioned to make really thoughtful decisions over the long term. We have the luxury of a very long time horizon here as an institutional investor at WashU, so we want to be able to invest in markets throughout all forms of volatility. That's, I think, what creates opportunity during what are otherwise really tough and unfortunate times.
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