Navigating structural shifts in 2023

After what has been a year of both highs and lows where we have emerged from COVID-19 restrictions, witnessed global geopolitical risks, a spike in inflation and the fastest fiscal tightening in Australian history, it seems clear that 2023 will start in a very different place to 2022.

Mike Lukin: Probably a couple of things happening that are quite interesting and worth exploring a little bit this morning. The first what I would say is around asset allocations to private markets and the opportunities to support new funds being raised, and what we're hearing a lot on the ground from you know, local institutional investors and international institutional investors is a flood of money really early in ‘22 into private market allocations. And those allocations being deployed with private equity firms and then followed by basically a slowdown in exit activity and a reduction in the kind of listed equity valuations and bond market valuations for that matter. And so there is a lot of noise around about allocations to private markets being relatively constrained at the moment, you know, a lot of international investors are overallocated.

In Australia, more locally, we're seeing a lot of the superannuation funds international funds that are subject to fee regimes and regulatory aspects around kind of how they allocate to private markets in higher cost asset classes looking to reduce their exposures to become the low cost option in the market. I think all that from an asset allocation perspective, from a market perspective is probably meaning two things. One is for new funds being raised next year, it's going to be really hard. So particularly I think in the first half of ‘23, what you will see is probably longer fundraising periods for new funds. Opportunities to access funds that perhaps didn't exist historically because of you know, those allocations being tightly held by you know, foundations, endowments those kind of groups in the US. So I think those top tier firms globally are probably looking going to look to explore other markets like Australia, like high net worth markets globally, for capital in a way they haven't probably done so since the global financial crisis in coming out of the financial crisis.

So I think from a kind of allocation and opportunity to access funds, I think we're going into probably an interesting time. Probably more interesting is what we see in coming down the prior pipe around secondary opportunities, not only kind of from an Australian perspective or an Asian perspective, but also from a global perspective. So firms that
are overallocated to private markets, you know, the US investors generally have a 31 December balance date. They're going to look at their portfolios and say I'm overallocated, I don't have capital to deploy. How do I actually make capacity in my portfolio? How do I kind of weed out, you know kind of where I want to be deploying capital? So I think what we'll see kind of coming out of 31 December is a lot of deal flow on the secondary space and I think that will basically permeate through global opportunity sets. In Asia, I think we've also got the additionality of a number of you know US and European investors, and I think it kind of applies to Australia as well kind of coming back closer to home with their allocations and we'd see these regularly when you have downturns people to tend to deploy capital closer to home. They feel more comfortable if they're based in the US to deploy in the US based, based in Europe deploying in Europe. And so I think what we're going to see is a lot of secondary opportunities coming to market around the Asian markets around Australia from offshore investors who are kind of trying to repatriate capital. I think we'll continue to see a steady flow of opportunities out of the superannuation market here where, as this focus on fees continues to kind of roll through as we see more mergers and

acquisitions monks superannuation funds, we'll continue to see opportunities as people reposition at portfolios, right size their portfolios, have minimum check size that is above their existing allocation sizes, basically looking to dispose of those investments, and I think that'll be a really interesting or strategic opportunity longer term.

I think around the market itself in the private market exposure that that we have, my sense is we're probably going to see a little bit of reduction in valuation over the next six months - 12 months and really if you think about how private investments are valued it's, in essence, the earning stream on a business multiplied by the market multiple for those businesses. And if you think about the ‘22 story, the ‘22 story was all about that market multiple coming down. And we've seen that one turn or two turns of EBITDA less in valuations for businesses, but on the other side, you've really seen really strong economic performance and really strong earnings performance from a lot of businesses. And so the portfolio valuations will continue to hold up through this market environment because the economy is still strong.

What we're seeing going into ‘23 however is probably a reduction in kind of earnings driven by the consumer becoming more cautious, you know can't have the interest rate rises the inflation cost pressure coming through the system and that not have an effect on the economy. And so I think as we roll into ‘23, we will see those earnings numbers come down. We've seen the multiple come down and so from an investment perspective, I think we'll see some really interesting buying opportunities in ‘23 as a result. We'll have both parts of the equation coming to kind of call it cyclical lows great opportunities to acquire on the back of that and then, kind of as we come out of that slow down ability to grow earnings ability to see multiple expansion coming back into the portfolio.

And then finally, I think the other piece is with, had a great bull market in equities for a long time. In essence, it has come off a lot over the last nine months in particular what that tends to mean is that listed companies become more foc