We’re taking stock of the private markets landscape over the last quarter, highlighting the latest themes and evolving trends within a variety of sectors and strategies – all in just a couple of bullet points.

Direct Credit

  • Direct Credit deal flow remains robust, at 90% of 2021 levels on a March YTD basis despite slower activity levels across the broader market (2021 was a record year of deal flow).
  • Leveraged loan default rates remain at historic lows (0.6%) and equity contributions in the middle market are trending above 50% as a percentage of total capitalization.
  • Despite ongoing pressure related to supply chain and inflation, the U.S. economy is generally strong, with households and corporations in a healthy financial position. The unemployment rate is near historical lows, at 3.8%, and labor demand remains strong. The Federal Reserve has forecast 2022 ;U.S. GDP growth to be 2.8% and remain in the 2-3% range through 2024.
  • Due to the floating rate nature of Hamilton Lane’s loan portfolio, an increase in rates could contribute to improved yields. Historically, credit funds investing during rate hikes outperformed funds investing during all other periods.
  • Investors are beginning to benefit from a rise in LIBOR as many loans have floors at or below 75 basis points. SOFR has also climbed, although not as much as LIBOR, causing many investors to favor LIBOR at present. LIBOR tends to move higher than SOFR during periods of market stress since LIBOR embeds a credit risk premium.


Direct Credit Investing at Hamilton Lane

Access to the private credit market, emphasizing current yield with an aim toward downside protection

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Direct Equity

  • After a record year in 2021, Q1 2022 saw deal activity slow for many GPs, giving them time to catch their breath and assess macroeconomic and geopolitical concerns.
  • Ensuring portfolio companies can respond to the impact of inflation, rising rates and Russia’s invasion of the Ukraine has been critically important.
  • So far, stock market volatility has not caused a widespread reset on pricing for private equity deals. Valuations for high-quality companies in coveted sectors are still delivering attractive prices for sellers as demand for these types of targets has increased during this turbulent stretch.
  • More structured investments and buyer-friendly terms are starting to appear in growth and venture capital deals.
  • Proven co-investment partners with strong relationships, access to deal flow and the ability to invest broadly across different sectors and geographies have a greater advantage in these market conditions, and are able to provide unique portfolio construction and diversification benefits to their investors.


Direct Equity Investing at Hamilton Lane

Globally diversified platform targeting the SMID market with unique positioning

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Fund Investments

  • Compared to the long-term historical norm of about 4% growth in a quarter, buyout returns continue to be quite impressive. Assuming a 7% return for the Q4 2021, that would imply a yearly return for 2021 of 40+%, compared to long-term averages of about 17%.
    • That would make 2021 the year of the highest return in our PE data set going back to 2000. Even if Q4 returns were 0% that statement would still ring true... 
  • As we look at deal activity, Q1 2022 data on contributions and distributions was more muted compared to 2021. (Though it should be noted that there is certainly some seasonality in cash flow trends, and we normally see Q1 levels reduce compared to Q4, which typically is the most active quarter in a year.)
  • Overall, the quarter was net cash flow positive for PE as contributions came down significantly while distribution activity came down less or remained flat depending on your comparison point.

Shifting to activity levels within Hamilton Lane’s Fund Investment team:

  • Overall, we don’t expect this blistering pace of fundraises, particularly those we will diligence, persisting throughout 2022.
    • We are already starting to see signs of LP fatigue in the market either because they are overwhelmed with reups or new options or just out of capital. It feels like we are the precipice of a pull back and slow down to commitments. While our forward pipeline is still long, its shorter than it has been for some time now.
    • On the GP side, this has meant that we are starting to see a slowdown of new fundraising launches as well as in how quickly GPs can close on capital.
    • First closes are frequently delayed and groups that historically have been one-and-done fundraisers are extending to multiple closes.
  • First-close discounts are becoming a double-edged sword: LPs want and expect them but if they miss the first close it’s hard to get them to consider a later close to wrap up a fundraise.
    • GPs that have raised multiple funds in quick succession seem to be facing the most scrutiny.

Primary Fund Investing at Hamilton Lane

High-quality primary fund investments with often hard-to-access general partners

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Impact

  • Awareness of, and interest in, impact investing has continued to proliferate around the globe.
  • The significance of the private market universe is gaining attention from global leaders, including Jamie Dimon, who in Q1 famously acknowledged the shrinking public market relative to the expanding private market.
    • This is particularly relevant for impact investing in that many of these private companies are best positioned to drive the innovation and transformational growth needed to solve some of the world’s biggest challenges.
  • 2022 is off to a strong start for impact-related deal flow, with 35 impact funds reviewed by our team and 37 direct investments totaling more than $1B in opportunity, close to double the amount seen to date.
  • With increased opportunity and interest comes increased regulation and transparency. Regulatory requirements around climate-related disclosures continue to gain traction globally:
    • The SEC recently proposed rules to enhance and standardize disclosures for public companies.
    • The Australian Sustainable Finance Initiative (ASFI) is forming a working group to produce a sustainable finance taxonomy in Australia.
    • The International Sustainability Standards Board (ISSB) proposed both general sustainability-related disclosure requirements as well as specific climate-related disclosure requirements.
    • Investors and companies alike will require additional data to both comply with regulations as well as to properly understand and assess their portfolio exposures.

Impact Investing at Hamilton Lane

Seeking to deliver attractive returns while generating meaningful and measurable impact

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Infrastructure

  • Infrastructure transaction activity has cooled somewhat as investors digest higher inflation, higher interest rates and continued disruption to global supply chains.
  • Sustained supply chain disruptions have meant higher utilization and contract rates for logistical infrastructure assets.
  • A strong macro backdrop has helped drive infrastructure investor interest in renewable generation and energy transition assets over the quarter, with corporates being the largest driver of PPA activity in renewable assets.
  • The energy crisis in Europe has renewed interest in natural gas storage, transmission and distribution assets, as some countries scramble to move away from Russian gas supply. In an effort to diversify Europe’s energy mix, LNG export/import terminals are seeing significant investor interest, as well as large-scale renewable projects, including offshore wind.
  • Infrastructure fundraising remains strong as global economic uncertainty pushes investors to assets with strong downside protection and more durable cash flows.

Real Assets Investing at Hamilton Lane

Access to primary, secondary and direct investments across infrastructure, real estate and natural resources

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Real Estate

  • U.S. commercial real estate performance, as measured by NCREIF Property Index (“NPI”), exhibited a remarkable and widespread recovery in 2021, with all property types generating positive returns for the year. Total unleveraged Index performance for 2021 was 17.7% versus 1.6% for 2020, and by property type, respectively:
    • Industrial: 43.3% vs. 11.8%
    • Apartments: 19.9% vs. 1.8%
    • Retail: 4.2% vs. -7.5%
    • Office: 6.1% vs. 1.6% (hard to believe NPI office lost no value through the pandemic)
    • Hotels: 5.5% vs. -25.6%

A rising tide did not lift all boats equally, however, with historic levels of return dispersion across property types and markets resulting in reasonable relative returns for the asset class as a whole.

  • Following a year for the record books, uncertainty pervaded Q1 2002 as 1) rising interest rates, 2) inflation, 3) enduring supply chain issues, and 4) labor shortages became top of mind for real estate investors.
  • In response, market participants appear to be 1) concentrating on property types and locations where conviction is high, 2) diversifying across a greater number of property types (cold storage, life science, self-storage, student housing, single-family rentals), 3) remaining on the sidelines reserving capital for lower prices, or 4) focusing on subordinated debt strategies.
  • For the first time in their careers, many market participants face an environment of rising interest rates. From “buying down” interest on loans in the 1980s to an environment of near-zero interest rates in 2021, these participants may, for the first time, have to underwrite investments with cap rate expansion, and negative net operating income spreads vs. financing costs.
  • Failure to execute on business plans will no longer be offset by the rising tide of falling rates (cap rates and interest rate), increasing the importance of execution and investment selection.

Real Assets Investing at Hamilton Lane

Access to primary, secondary and direct investments across infrastructure, real estate and natural resources

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Secondaries

LP Interest Market

  • After a very strong January, LP interest volume slowed during the latter half of the first quarter as buyers paused to digest the market volatility and uncertain global economic after a year of record deployment. The expectation is that deal flow will ramp back up significantly in Q2 once buyers and sellers have greater visibility on first quarter valuation trends.
  • Absent the tailwind of increasing valuations, average secondary market pricing across all strategies is at risk of declining from 2021 levels. Pricing on venture funds is already meaningfully down from 2021 levels, as the extreme pullback in public growth stock valuations has limited secondary buyer appetite dramatically.
  • LPs remain overallocated to private equity, an issue at risk of being exacerbated by the denominator effect. This dynamic should support LP interest deal flow going forward as motivated sellers look to free up capital to maintain commitment pacing against the backdrop of an extremely busy fundraising market.
  • LPs may have to weigh lower pricing against the benefits of meeting these portfolio objectives. Deferrals and other structuring alternatives as a means of bridging bid-ask spreads may increase in frequency if market volatility persists.
  • Continuing concerns around decreasing valuations, inflation and ongoing geopolitical tensions will lead to wider pricing disparity amongst buyers, fewer bids in auction processes and lower pricing on large, diversified portfolios.
  • Targeted sales of higher-quality portfolio subsets may be the most efficient path for motivated, price-sensitive sellers, as buyers focus on funds they know best and the market shifts from macro to micro.

GP/Complex

  • GP-led/complex transactions comprised the majority of deal flow through the first quarter of 2022, and supply from general partners is showing no signs of slowing.
  • Within the GP-led space, single-asset continuation vehicles remain the most prevalent transaction type. An increasing number of these single-asset transactions are now being pursued alongside a third-party sponsor investment, eliminating valuation uncertainty but raising buyer considerations around governance and secondary profile.
  • The theme of a tale of two markets continues, with hard-to-access middle-market transactions juxtaposed against larger broadly syndicated transactions that are struggling to be placed in a market that is both capital and resource-constrained. No meaningful new entrants and longer-than-expected secondary fundraisings suggest this supply/demand dynamic will persist. Lower-quality managers attracted to the fruits of continuation vehicle market will find limited to no receptivity from reputable, scaled secondary buyers.
  • Buyer competition is more around allocation and terms than pricing, with GPs continuing to prioritize longer-term relationships and strategic partnerships.
  • The market remains dominated by sizable buyout and infrastructure deals. Certain venture deals have become stranded as GPs are unwilling to accept the discounts and structuring required to bridge the valuation gap.

Secondary Investing at Hamilton Lane

A shorter duration complement to an overall private markets portfolio

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Venture Capital & Growth

  • Companies and investors are showing a renewed focus on profitable growth and all eyes are on operational performance.  To date, outside of a small percentage of companies suffering from post-COVID malaise, portfolio company growth rates appear to be holding up.
  • Public market revaluations are impacting the later-stage market as investors reconsider exit assumptions and companies digest new valuation expectations.
  • The market is bracing for lower liquidity levels as a result of fewer IPOs and SPACs.
  • Despite a slowdown in later-stage deal activity and IPOs, Q1 2022 remained one of the most active venture quarters, with funding still near all-time highs.
  • Fundraising is becoming more challenging for venture firms given a record number of funds are in market at the same time that LPs are hitting asset allocation limits as a result of strong venture NAV growth and a softening public market.

Venture Capital & Growth Equity Investing at Hamilton Lane

Seeking to access top-tier venture and growth equity companies through funds, secondaries and direct investments

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Definitions 
Co/Direct Investment Funds: Any PM fund that primarily invests in deals alongside another financial sponsor that is leading the deal.
Credit: This strategy focuses on providing debt capital.
Infrastructure: An investment strategy that invests in physical systems involved in the distribution of people, goods, and resources.
Private Equity: A broad term used to describe any fund that offers equity capital to private companies.
Real Estate: Any closed-end fund that primarily invests in non-core real estate, excluding separate accounts and joint ventures.
Secondary FoF: A fund that purchases existing stakes in private equity funds on the secondary market.
VC/Growth: Includes all funds with a strategy of venture capital or growth equity.

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