By Dirk Holz, director of Private Equity and Real Assets at Royal Bank of Canada’s Investor and Treasury Services business.
The last few years have seen healthy amounts of capital returned to investors in private equity and real asset funds. Driven by this strong performance and the confidence that it will continue to deliver, we expect investors to continue to allocate capital to real estate and private equity throughout the remainder of the year. According to the Preqin November 2016, Fund Manager Survey, 45% of Europe-based fund managers plan to deploy significantly more capital in to real estate in 2017 compared with 2016.
As a result, we also anticipate that there will continue to be fund launches in these asset classes by both first-time and experienced fund managers. Notable launches in 2016 included Blackstone Real Estate Partners Europe V, Starwood Capital Group, Carlyle Group, Oaktree Real Estate Opportunities Fund VII and Pimco Bravo Fund III. Added to this, according to the Preqin January 2017, Secondary Fund Manager Survey, the total value of transactions completed by secondary fund managers is expected to increase by 60% in 2017.
With the continued increase in investment in private equity and real estate we expect the search for experienced asset servicers who are able to provide the requisite custody, fund administration, value add and data services for these real asset classes to rise.
We also expect to see an increasing number of funds assuming the role of traditional banks, due to enhanced bank capital and liquidity requirements, lending to other funds with appetite to invest in private equity and real estate assets through mezzanine financing and junior loans. This trend is particularly prevalent in the US where approximately 80% of financing is provided by funds and private loans. In Europe we see a reverse situation, with roughly 75% of financing provided by traditional banks. However, with the anticipated introduction of Capital Markets Union in Europe on the horizon we should see more lending through private loans from asset management firms.
Throughout the remainder of 2017, we anticipate that private equity and real estate investment funds will seek new ways to ensure they can continue operating on the continent under the Alternative Investment Fund Managers Directive (AIFMD) against the backdrop of the United Kingdom’s eventual exit from the European Union. In light of earlier uncertainties surrounding whether the UK will retain access to the single market, and what this will mean for the application of AIFMD, we have already seen large funds preparing to use Luxembourg as a base in order to market and distribute their funds across the EU, and we expect this trend to continue. The same can be said for some private equity groups which have not yet established London as their base to market and distribute their funds and who are opting instead to domicile themselves in Luxembourg.
We are also seeing increased appetite among US fund houses to set up private equity and real estate funds in Luxembourg or Dublin as a result of AIFMD. Currently these fund houses operate with Grand Cayman, Delaware and Caribbean fund structures which are accessible to non-European investors. By setting up parallel alternative investment funds in Europe, these same fund houses will be able to attract and raise capital from European-based investors.
Consolidation of operating models
We expect to see further streamlining of custody and fund administration operating models among alternative investment managers, particularly across private equity, due to regulatory pressures and technology demands. This will start with a reassessment of their offerings; deciding what they want to keep in-house, and what they want to outsource. As such, we expect to see a greater number of firms leverage the expertise of external providers to administer their funds while they focus on their core competencies of managing investor relationships, portfolios and fund raising. For those alternative investment managers who have been using external services for custody and fund administration, we expect to see these services consolidated across just one or two specialist providers. For outsourced providers, the ability to demonstrate offshore expertise and embrace and invest in IT to provide more than just traditional services such as core custody and to offer value-added services, therefore helping clients to increase transparency, lower costs, reduce operational risk, data services and respond to changes in the regulatory and operating environment, will be paramount.
Leveraging technology to increase efficiency
And last but by no means least; we will continue to see investment and development in disruptive technologies across private equity and real estate fund administration and custody. This will be most evident in the area of accounting which currently requires a great deal of manual effort and is therefore subject to operational error. However, we are still at a relatively early stage in development and implementation. We don’t expect the application of disruptive technologies to achieve the desired operational efficiency and effective risk management that custodians and their clients demand for at least another five to ten years.