Rate cuts fuel private equity's push into capital-intensive sectors

Central banks cutting interest rates have reignited interest in private equity, with capital-intensive sectors and high-growth industries set to benefit, according to market analysts.

"Traditional revenue-generating, profitable businesses will continue to be popular," Parthiv Rishi, partner at law firm Sidley Austin LLP told AsianInvestor.

"Healthcare, education, consumer, high-end manufacturing, and digital infrastructure—including data centres, fibre, and towers—are seeing increased investment and M&A activity," he added.

Digital infrastructure stands out as a cornerstone for growth, according to Rishi.

"Given the critical nature of digital infrastructure to all businesses and the exponential adoption of AI, this will be an area which will require significant capital investment and the writing of big cheques, especially in Asia," he said.

The numbers tell the story. The global digital transformation market was valued at $721.6 billion in 2022 and is expected to reach $6.8 trillion by 2032, representing a compound annual growth rate (CAGR) of 25.4%, according to Allied Market Research.

Victoria Chernykh, associate vice president of Research Insights at Preqin, told AsianInvestor that "real estate, hit hard by higher interest rates, is likely to recover some ground."

Eddie Ong, deputy CIO and managing director of private investments at SeaTown, also pointed out that "lower interest rates favour leveraged buyouts and the use of acquisition financing, making control buyout opportunities more popular."

Additionally, falling base yields may widen the gap between private credit and private equity returns.

"As base yields decrease, the difference between the targeted returns of private credit funds and private equity funds will widen, and institutional investors might increase allocations to private equity as returns look relatively more interesting," Ong told AsianInvestor.

While all private equity sectors are expected to benefit, life sciences and technology are positioned for substantial growth as equity capital access expands.

"Life sciences and technology sectors, being sectors where there is a large proportion of growth and emerging companies, will significantly benefit as rates continue to fall and access to equity capital increases," added Rishi.

DRY POWDER AND ALLOCATIONS

Private equity firms globally are grappling with the deployment of $2.59 trillion in unspent capital, or "dry powder," whilst facing economic uncertainties, according to Preqin data.

However, the proportion of dry powder to assets under management (AUM) has been shrinking, from 32% in 2020 to 25% in 2023, with a further dip to 23% projected by 2029, Preqin research shows.

"This means that indeed the private equity industry has been actively investing despite challenges," said Chernykh.

Buyouts are leading the charge in capital deployment, accounting for 70% of AUM by 2029, up from 67% in 2023, according to Preqin forecasts.

"As deals and funds become larger, buyout will be the key strategy to benefit from this trend due to its high proportion of large and mega deals compared with other private equity strategies," Chernykh added.

Control deals are also gaining momentum, supported by lower financing costs. "We are already seeing this play out in the market with a lot of auction sale processes commencing and control opportunities re-presenting themselves," said Rishi.

Meanwhile, growth capital investments in Southeast Asia and India are regaining momentum.

"Since 2022 this segment of the market has been relatively quiet. As exit opportunities for these businesses become more real, we think there will be more investor appetite," he added.

For context, Southeast Asia's private equity market attracted $6.4 billion in disclosed deals in 2022, down from $21.7 billion in 2021, according to Bain & Co. With interest rates easing, this region is expected to see renewed interest, particularly in growth-stage opportunities.

Chernykh further noted that "North America will remain the dominant private equity market, with a 68% share of AUM by 2029, while Europe is expected to continue to account for one-fifth of the global private equity AUM."