Middle East interest in private equity and venture capital is increasing as regional investors seek to boost their allocations to alternative assets amid a push towards diversification.
While 65 per cent of investors in the region say that they will maintain or increase exposure to PE this year, 56 per cent say the same about VC, a report by investment data company Preqin and the Dubai International Financial Centre found.
PE will continue to be the “biggest class of alternative investment assets under management” in the medium term, growing to $7.6 trillion by 2027, up from $4.3 trillion at present, according to Preqin's forecasts.
While PE is still a relatively small part of the world’s combined public and private equity markets – it stands at only 7.4 per cent in its biggest market, North America – the segment is set to grow over the long term.
“There are many reasons why company sellers and investors are attracted by the PE model, including the opportunity to restructure a business out of the public eye,” the report said.
“But the most compelling rationale for PE is its ability to reward investors, offering significantly better returns than, for example, the S&P 500 and the MSCI World Index over the past 15 years.
“While not immune to bad news, the flexibility of a well-managed PE portfolio can offer a degree of insulation from the shocks of public market volatility.”
PE funds set up between 2009 and 2019 returned a median net internal rate of return of 19.2 per cent.
Growth in the market has slowed in recent months, with pressure from geopolitical tension, accelerating inflation and higher interest rates affecting performance, especially for growth funds looking for strong macro fundamentals, the report said.
Despite these headwinds, Preqin expects PE to grow in “relative popularity” over the next 12 months, with comparative investment returns remaining the most compelling growth driver.
Globally, PE met or exceeded the expectations of 87 per cent of investors last year, according to Preqin's survey data.
Its survey of Middle East investors in February 2023 also found that more than 72 per cent consider PE to have met or exceeded their return expectations over the previous year.
More than 44 per cent of the region’s investors said that they planned to commit more capital to the asset class in the coming year, while close to 15 per cent said they intended to reduce their allocations.
The global alternatives industry is growing, with assets under management expected to nearly double to $23.21 trillion by 2026, from an estimated $13.32 trillion at the end of 2021, a previous report by Preqin found.
Regionally, the UAE in particular is taking efforts to boost its alternative investment market and has attracted several major global players to establish regional offices in the local financial hubs.
This month, the DIFC said it had signed a preliminary agreement with the Alternative Investment Management Association and welcomed five additional global hedge funds as it seeks to bolster its status as an international hub for alternative investments.
AIMA represents more than 2,100 corporate members with $2.5 trillion in hedge fund and/or private credit assets.
The centre also said new PE firms that have set up offices in the centre this year include TPG Global, Rockpoint and CVC Capital Partners.
Meanwhile, the Abu Dhabi Global Market has also seen a surge in interest from hedge funds and VC firms.
Ray Dalio, the founder the world's largest hedge fund, said in April that he was setting up a branch of his family office in the ADGM, while Brevan Howard Asset Management is also expanding in the emirate.
This month, Tikehau Capital, a France-based alternative asset management company, which manages more than $43 billion in assets, also said it has set up its office in the ADGM.
Globally, while the forecast for PE remains bullish, the short-term outlook for VC is “not as bright”, the report said.
Preqin’s VC indices have dipped in line with the S&P 500 Total Return Index, and are expected to continue to fall over the next couple of quarters as VC firms price in current market conditions, it said.
“The more pronounced fall in global VC returns compared with PE is due to the longer duration of VC investments, which are more sensitive to changes in interest rates,” the report said.
“This will not improve in the short term as the deteriorating exit environment for expansion/late-stage strategies is yet to be reflected in Preqin VC Indices. This effect will kick in over the remaining months of 2023.”
Rolling three-year horizon internal rates of return for VC reached 25.2 per cent for the period ending March 2022 – short of private equity’s returns over the same period.
The more established VC markets recorded a significant dip in deal activity last year. There were $324 billion worth of deals in North America, Europe and Asia in the nine months to September 2022, down from $645 billion for the whole of 2021.
However, markets in the Middle East bucked the trend.
In the first nine months of 2022, the Middle East closed $10 billion worth of deals, compared with $12 billion for the whole of 2021, which was itself a record and more than double the previous year’s total.
“The Middle Eastern alternatives market is remarkable for its positive investor sentiment, contrasting strongly with global pessimism,” the report said.
“Only 19 per cent of Middle Eastern investors considered that the macroeconomic cycle was declining when Preqin surveyed them in February this year, compared with 94 per cent of global investors surveyed three months earlier.
“This may be attributed to several factors, including a general abundance of capital in the region, and its relatively small exposure to the alternatives market to date.”
In the year to May 2023, Preqin has counted 89 VC deals in the Middle East, 39 of which were under $5 million in value.
The 18 larger deals, across sectors ranging from finance and e-commerce to transport and coffee shops, had an aggregate value of a little more than $1.1 billion, it said.
In the first half of this year, Mena start-ups raised more than $1 billion through 193 deals, with the region’s venture capital ecosystem seeing a 42 per cent retreat in the funding levels and a 49 per cent decline in the number of transactions, data platform Magnitt said in a report this week.
