Alternative Asset Classes
Alternative assets are investments that do not fall under the classification of other commonly known asset classes like stocks, bonds and cash. Typically, this categorisation includes assets such as private equity, private debt, infrastructure, real estate, natural resources and hedge funds. Here we take a closer look at what each of these asset classes are.
Property
As higher interest rates bite and concerns around a recession grow the sands are shifting in property
markets.
In residential property, higher interest rates and unemployment impact loan serviceability and the
willingness of banks to write new loans, we expect residential property prices to be impacted over the
next few months.
Commercial property sector attractiveness has shifted amongst the traditional office, retail and
industrial sectors, and more niche healthcare, childcare, petrol stations, self-storage and hotels.
Office has had some downward price adjustments given demand weakness, but we expect further
adjustments likely.
Retail has been a sector to avoid, with selective opportunity amongst the high-quality large centres
and more defensible neighbourhood centres.
Industrial has been the darling sector and pricing has held up, with selective opportunities driven by
the third-party logistics growth trend.
Amongst the niche sectors we like regional pubs and some healthcare, noting childcare has been
priced into expensive yield levels.
We expect the transitional environment into a business cycle slowdown and possible recession to be
a good time to seek out the most experienced opportunistic and special situations strategies and
focus on value-add strategies that can withstand interest rate and valuation capitalization rate (“caprate”) rises.
Venture Capital and Private Equity
We note that in later stages of Venture Capital and areas of Private Equity that rely on an equity listing
through initial public offering or a leveraged buyout exit will be challenged. Some managers have
indicated that larger institutional managers are holding back or reducing allocations as they rebalance
private market portfolios down to manage allocations versus public market asset class declines.
As capital becomes more constrained, there will be better opportunities with less capital able to be
more selective at more attractive prices. Vintage years in the next two years should be attractive if
prior recessionary periods are repeated.
Earlier stage Venture Capital from pre-seed, seed to series A (the first institutional round) are most
attractive versus later stage venture capital. This is validated by pricing we are hearing being revised
down more as venture capital rounds get closer to IPO or trade-sale exit.
Private equity middle market opportunities with growing companies that are resilient to challenging
economic environments should perform well, where companies that are reliant on a more buoyant
growth environment and need capital during downturns could be challenged.
We see more opportunities for secondary venture capital and private equity funds as a combination
of investors choose to exit and valuations become more attractive.
Private Debt
The main challenge for private debt in the last quarter has been a combination of public market debt
yields rising and private debt that has been more fixed rate oriented. The relative value of public
markets is more compelling with broad market bond index yields rising from less than 1% a year ago
to 4% and above. Private debt funds are responding by switching new loans to floating rate, which will
capture some of the yield rises of floating rate benchmark rates (e.g. the Bank Bill Swap Rate).
Challenges of increased construction costs, interest rate costs and higher contingencies will impact
feasibilities for construction loans. Other property loans on existing land and buildings may not have
construction cost impact but will have higher interest rates to be factored in with variable rates rising
over the course of a loan.
Corporate lending should be more disciplined given the corporate earnings downturn and margin
pressures, with some selective special situations attractive. Our research into local private debt
continues to reveal additional offerings across the spectrum of private debt.
Agriculture
There is a challenging and rewarding time ahead for agricultural investments. The global food supply
continues to be affected by the Russia/Ukraine war and higher prices are likely to be captured by
Australian farmers. However, we are aware of agriculture risks of weather, fertilizer, water, and
biosecurity. The search for real assets and inflation hedging are expected to continue support for
agricultural investments, whether they be equity or debt.
We see strategies across land ownership, business ownership, and technological investments.
Diversified land strategies provide regular income and capital return, with good inflation hedging
characteristics over the long term.
Select sectors may be of interest as they offer both land and business exposures and professional
agricultural management to drive best practice investment and sustainable returns. Another area with
an agricultural theme is private equity funds that have an ag tech and food security focus.
Infrastructure
We expect some downward repricing in infrastructure to occur due to the sharp rise in government
bond yields that are likely to stabilize at higher levels for the next decade. This provides risks and
opportunities.
The highest risk is in core infrastructure and larger sized investments that are driven by large asset
allocators at super funds. Some risk can be mitigated with infrastructure that has a value add or
construction to maturity de-risking component. Valuations are less challenged in middle market
infrastructure. We are assessing infrastructure managers and note there are few offerings outside the
very large fund operators. We expect that the trend of large players taking infrastructure companies
private will continue as listed companies experience downward price re-rating. We prefer private
infrastructure to public infrastructure as equity market volatility adds to the risk profile for public
strategies.
Fund of fund opportunities are available in this sector, however these mostly have very large funds
that have core exposures. We prefer core plus and infrastructure development and more middle
market to upper middle market strategies that are not priced higher by large players.
Other Alternatives
There are other alternatives that are of interest which may be monitored and researched from time to
time as opportunities and the environment justify. The opportunities will depend on the availability of
top ranked strategies, local vehicles for investment, and the market environment, and the anticipated
demand. These include:
• Hedge funds
• Event driven opportunistic strategies
• Niche sub-sectors within private debt
• Catastrophe and insurance linked bonds
• Multi asset strategies such as commodity trading and global macro, and
• Long volatility strategies.
We may see valuation and market structure shifting to help prioritise some of these for the year ahead.
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