Alternative investments in uncertain times

June 12, 2022

2 mins

David Bailin

Chief Investment Officer and Head of Citi Global Wealth Investments

Steven Wieting

Chief Investment Strategist and Chief Economist

SUMMARY

From free-flowing capital and high valuations, to constrained spending and a shut down in public exits, we believe a new period has begun for alternative investments. Consequently, we are likely to see near-term downward pressure on private market valuations.

May’s CPI surprised to the upside, rising 1.0% overall to a new cycle high of 8.6% on surging energy and food costs. The data will only further pressure the Fed to move on with its radical about face in policy. As the Fed tightens, the risk of a future recession rises. But let’s not ignore the improvements made so far in rebalancing supply/demand. Inflation measures (with key components in the Index of Lagging Economic Indicators) are the last place this will be seen.
For private equity and venture capital firms, the contrast between today’s environment and 2021 could not be more stark. A new period for sponsors and investors alike has begun. There will be downward pressure on private market portfolio valuations over the coming quarters, with significant dispersion among managers dependent on industry focus, leverage employed and the reduced price of new deals.
Secondary market pricing is currently anticipating notable valuation declines from December 31, 2021 levels. New investment activity is slowing down in 2022 as both sellers and buyers in the private markets adjust to changing pricing and leverage dynamics, which may lead to more attractive entry points.
• When momentum ceases to lift all boats, asset selection skills become critical, and managers will be able to leverage a restrained competitive environment and rational valuations to seek to deliver enhanced returns to investors.
Real estate and other hard assets may benefit investors in an inflationary environment given the ability to mark-to-market asking rents; higher inflation also means higher replacement costs likely reducing supply.
Overall, we see specific risks and potential opportunities, with some sectors likely to materially outperform after this downturn.
Qualified and suitable clients – in particular those who can take on some illiquidity risk – will be able to consider a diverse set of alternative investment managers to potentially enhance returns, hedge macro risks, and diversify portfolios relative to a purely traditional portfolio of stocks and bonds.