Sovereign wealth funds have been building allocations to unlisted assets and shifting towards co-investing at a startling pace in the past few years, a new report shows.

As public markets continue to shrink, government institutions are increasingly forming new types of partnerships with peers, private equity firms and corporates, and sharply raising their exposure to sectors like healthcare and technology.

These are among the key findings from the latest annual review from the London-based International Forum of Sovereign Wealth Funds (IFSWF), released late on Wednesday (May 22). 

The research, which focuses solely on direct investments and doesn’t include mandate-based allocations, shows that partnership deals accounted for 70% of the number of SWFs’ direct investments last year (versus 30% for solo investments).

That is a major jump from the two types of approach each accounting for half of the total in 2016 (see figure 1 below).

PARTNERING PREFERENCE

Other research underscores this rapid shift.

Bernardo Bortolotti, research unit director of the sovereign investment lab at Bocconi University in Milan, said that between 2009 and 2018 the amount of direct equity partnerships as a percentage of the total number of deals by SWFs trebled from 19% to 60%.

“Broadly speaking, collaborative investing is gaining ground [among SWFs],” Bortolotti said, speaking on a panel at the IFSWF review launch in London yesterday (May 23).

FIGURE 1: PARTNERSHIP AND SOLO INVESTMENTS BY SOVEREIGN WEALTH FUNDS
(Click for full view)

In real estate, the traditional SWF model of investing as a limited partner into third-party funds is disappearing, with more than 90% of property deals now being done through direct or co-investments. It’s a similar story for venture capital, where equity partnerships now dominate, Bortolotti added. 

“We are clearly observing a trend of disintermediation [among sovereign investors],” he noted.

Eugene O'Callaghan, ISIF

The benefits of co-investment are clear for Eugene O’Callaghan, who oversees the management of the Ireland Strategic Investment Fund (ISIF) and spoke on the same panel.

“If we have co-investment money alongside ours, we get more bang for our buck and there’s less of our capital needed to generate the economic impact that we’re looking for,” he said.

In addition, ISIF has a European Union state aid consideration, noted O'Callaghan: “As a public fund, if we have co-investors alongside us, then that definitively demonstrates there are no state aid issues.”

PRIVATE DESIRE

In terms of asset types, unlisted assets are gaining appeal with SWFs. They accounted for 65.2% of the number of deals made by the funds last year, compared to 53.8% the year before, according to the IFSWF review.

The pent-up demand for unlisted assets is huge, confirmed Will Jackson-Moore, global private equity, real assets and sovereign funds leader at consultancy PwC.

“Whether I’m speaking to Middle Eastern sovereign wealth funds, Canadian pension funds, Asian funds, everybody is wanting to do more direct private market transactions,” London-based Jackson-Moore said, also speaking on the panel. “It’s actually the supply of deals which is a constraining factor.”

At the top of sovereign investors’ shopping lists are private assets in the healthcare and technology sectors (see figure 2 below).

FIGURE 2: LISTED VS UNLISTED DEALS BY SOVEREIGN WEALTH FUNDS, BY SECTOR
(Click for full view)

The number of healthcare deals done by SWFs in IFSWF’s sample universe reached 40 last year, almost double the 21 recorded in 2017 and quadruple the nine from 2016, driven above all by biotech investments. Similarly the number of tech & telecom deals leapt to 44 last year from 18 in 2016.

Meanwhile, demand for industrial- and financial-sector assets has fallen away in the past couple of years.

Such trends reflect the focus on megatrends such as the rise of technology and the need to cater for ageing populations, and the shunning of certain sectors facing challenges from ‘new economy’ businesses, noted IFSWF in its research.