Asia, and above all China, is dominating the thinking of emerging market private equity investors to the extent that it is helping to divert their attention from other developing countries arguably more in need of it, argues Anne Fossemalle of the European Bank for Reconstruction and Development (EBRD).

And the trend for large asset owners to use fewer fund managers and make bigger commitments, as they seek to do more direct investing, is further exacerbating the situation, she told AsianInvestor in an interview.

“There is now less and less money going into emerging markets overall, and proportionally more of it going into China and India,”  said Fossemalle, the EBRD's director of private equity funds. As a result, “development organisations’ backing of [non-Asia-focused] emerging market private funds is even more critical”. 

Asia already attracts the lion’s share of global private investment into emerging markets, and China gets the largest chunk of that. 

Anne Fossemalle, EBRD

Emerging markets accounted for 11% of $639 billion of global private equity investment as of end-2018. Asia received 85% of that investment, according to the latest figures from the Emerging Market Private Equity Association (Empea). And China received $35 billion of the $76 billion raised by private fund managers in 2018 for investing into emerging Asia.

What’s more, Asia’s share has been growing: in 2008 it had accounted for 60% of global private equity investment into emerging markets. To the extent that non-Asian emerging markets at end-2018 accounted for just 1.6% of global EM private equity investment down from 3.6% in 2008.

That is bad news for emerging economies in regions such as Central and Eastern Europe (CEE), North Africa and Central Asia, where the EBRD operates and invests. It also reflects a shift in investors’ attitudes.

BIGGER TICKETS, FEWER PARTNERS

Before the 2008 global financial crisis, big international investors such as Canadian pension funds would allocate to the CEE region. But many asset owners now had their pots of money grow and they want to invest with fewer partners, said Fossemalle, a 21-year employee of the London-based development finance institution.

Abu Dhabi Investment Authority (Adia) is one example. The emirate’s main sovereign wealth fund once had around a team 10 individuals dedicated to investing globally in private funds focused on emerging markets such as Turkey and Central and Eastern Europe. The huge institution closed the desk in 2016 as it changed its private equity setup, splitting its coverage across three regions: the Americas; Asia Pacific; and Europe, the Middle East and Africa (Emea).

Adia did so with a view to making more direct and larger PE investing investments and to reduce cutting back on its manager relationships. As a result, it is more inclined to invest in the larger markets, such as those in Asia, which it has indicated has become a major focus region globally.

Moreover, other large institutional investors, such as Canada Pension Plan Investment Board and Texas's $153 billion retirement fund for teachers, have indicated that Asia is their main focus among emerging markets.

Ultimately, Fossemalle said, “it's very difficult for [big asset owners] to access emerging market growth fund managers, which are just too small and not seen as worth the risk". Even if a $50 million commitment were to provide “fantastic” returns, it wouldn’t move the performance needle sufficiently for a big institution, she added.

At the same time, large funds in Europe and the US, which often demand sizable commitments, have been delivering decent performance in recent years, she added. 

POLITICAL PROBLEMS

Moreover, political risk has also deterred more investing in certain emerging markets. Turkey is a clear example in recent years, with President Recep Tayyip Erdogan growing increasingly dictatorial and the government taking unusual monetary measures, among other concerns. 

Some sovereign funds are still active there; Malaysia's Khazanah and Singapore's GIC, for instance, are known to be still doing transactions in Turkey.

But numerous other big investors – such as Canadian pension funds – have pulled back, Fossemalle said. “There are lots of fantastic things to be done in Turkey,” she added, “but if you’re in Toronto and you see Turkey on the front pages of The Wall Street Journal, you wouldn’t want to have to explain that to your investment committee.”

Even if a pension fund committed to a GP’s Turkey fund in the past, “now they would think twice”, she added.

The upshot is that all the big institutional investors are, “very sadly”, reducing the number of relationships with non-Asia-focused emerging market private equity firms, Fossemalle lamented.

EBRD does not have the luxury of such choice: it must invest and provide financing geographically as per its mandate and where its country shareholders require. And that will always, by definition, be in developing markets.

This article is an extract from an interview that will appear in the upcoming (Spring 2020) issue of AsianInvestor magazine.