New government, same old story. Number 10 welcomed a new resident in July, the first from his political party for 14 years. But despite talk of a new era and a fresh start for Britain, in one particular area, he picked up where the previous government left off.
The UK is an old civilization and to remain competitive its crumbling infrastructure needs upgrading, cleaner forms of energy created and greater digitialisation developed. Providing fledgling companies with growth funding could provide another much-needed boost to the struggling British economy.
To fund all of this, the new government, just like the previous one, has turned to the pots of capital managed by pension schemes and insurers. And they may not need much persuading to back such strategies.
Traditionally, pension schemes invested in listed equities and bonds, but to diversify their portfolios and potentially earn higher returns, they have been increasingly investing in private market assets.
This is a trend that appears unlikely to reverse in 2025.
Indeed, institutional investors intend to increase their exposure to private market assets in the next two years, a survey conducted by PGIM has discovered.
It is not hard to see why as alternatives appear to be on a superior growth trajectory.
Global assets under management are projected to hit $171trn (£135trn) by 2028, reflecting a 5.9% compound annual growth rate, PwC predicts.
However, alternatives are expected to grow by 6.7% to $27.6trn (£21.8trn), during the same period.
A new dynamic
Since 2022, the story of private markets has been defined by the rise in interest rates, says Rob Martin, global head of investment strategy and research for private markets at Legal & General Investment Management (LGIM).
The higher bank rate has put pressure on valuations and pricing, which has resulted in fewer private equity, property and infrastructure transactions. Mergers and acquisition finance has also been harder to raise.
“Those two things slowing down hint at what is going to start changing in 2025,” Martin says. “We expect to see more transactional activity next year, particularly in real estate and infrastructure, because valuations have re-priced quite substantially and there is a different entry price now.
“We are going to see increasing transactional activity, but we are also going to see more focus on growth potential across private equity, real estate and infrastructure,” Martin adds.
One asset owner expecting to be active in the alternative markets in the year ahead is Nest. The master trust holds around 17% of its wealth in private markets and next year will continue with its plan to almost double that to 30%.
There are a number of asset classes the master trust will be looking at during 2025, says Rachel Farrell, Nest’s director of public and private markets. One is build-to-rent, where the master trust will address the shortage of housing and the demand for quality rental homes through funding new developments.
The other area that Nest will “ramp up in 2025” is timberland. This is part of a natural capital strategy, which was launched in 2024 to diversify its sources of return and to provide net-carbon benefits.
“Over time, as investors look to reduce the carbon footprint of their portfolios, they will be looking for these net carbon reduction strategies, which are quite limited,” Farrell says. “That will provide tailwinds for timberland investing.”
It’s not just carbon strategies. Momentum is growing behind a wider range of private market investments, says Nick Spencer, a senior consultant at Milliman. And assets with a connection to the UK economy or to provide a sustainable benefit are of particular interest.
However, the dynamics of these asset classes could be on the verge of change.
“A big theme next year will be Trump and the implications for the investment backdrop,” Spencer says.
Yet what could all of this mean in practice for alternative investment strategies and which other factors could affect the 2025 outlook for the main private market asset classes?
Private equity
Private equity is on the agenda for pension schemes, with 38% of the respondents to PGIM’s survey earmarking the asset class for fresh allocations over the next two years.
There could be more to come. PGIM expects evolving regulations, which would allow for more flexibility in private equity investments for pension funds and insurers, to boost appetite for the asset class.
The growing trend towards large deal sizes is also attracting institutional investors. Indeed, the average transaction size in 2024 was £1bn, more than double the £334m recorded a year earlier.
Another survey, this time carried out by Deutsche Numis in October, spoke to 200 senior private equity professionals and found that 81% see the UK as an attractive place to invest. Half named regulation as a factor.
Oliver Ives, co-head of UK M&A at Deutsche Numis, said in the report that he is seeing “increased ambition from private equity going into 2025”.
Indeed, the volume of private equity deals is forecast to rise in the year ahead. Most sponsors (84%) expect their deal count to almost reach double figures in 2025.
Yet the poll found that sourcing attractive assets is one of the largest barriers to deploying capital, increasing the likelihood of competitive tension. This could not only come from other private equity firms, but also corporates looking to take public assets private as stability returns to the market and shares are being used to finance deals.
Improving debt markets are a factor behind the rising ambtion for 2025. Last year, raising enough debt to complete a deal was cited as the largest barrier to the industry, but at 69% of respondents, it was 14% lower than in 2023. However, 84% of those surveyed believe that the debt markets will improve in the next 12 months.
The removal of uncertainty over the outcome of the US election and Rachel Reeves’ Budget finally being delivered, could be reasons for such optimism. Stuart Ord, co-head of UK M&A at Deutsche Numis, said in the report that lower valuations in the UK’s public markets were a factor in driving interest in “take-privates”.
And after a few tough years, 2025 could be a more favourable period for private equity to exit their investments. In terms of the exit options, 62% of respondents see IPO activity picking up, compared to 16% a year earlier. So sponsors could focus on exits in 2025.
A tough exit environment in recent years has meant that many investors have had to wait longer to collect a cash return. “This may create a bias towards higher quality and less cyclical assets in the exit pipeline next year,” Alec Pratt, co-head of EMEA financial sponsor M&A at Deutsche Numis, said in the report. Companies in the financial sector saw the most private equity activity in 2024, accounting for 19% of such transactions in the UK. Pollen Street Capital’s acquisition of Mattioli Woods and Nationwide’s takeover of Virgin Money were highlights.
This is a trend professionals expect to see continue into 2025. Attractive valuations and a trend for consolidation are drivers. The consumer sector is ranked second with real estate third, where assets on the market at a discount to book value are expected to tempt private equity to the negotiation table. Private equity’s fundraising environment did not improve during 2024 with total capital raised broadly at year-on-year.
While 63% of respondents believe that it will be ‘more challenging’ or ‘significantly more challenging’ to raise capital, this is an improvement in sentiment compared to 2024 when the equivalent proportion of respondents was 83%.
Moreover, the report claims that sponsors have significant dry powder to deploy and are screening the UK for opportunities across all asset classes. All in all, private equity should do quite well next year, Spencer says. But he can see interest skewed towards one particular country. “Private equity will get quite focused on the US reflecting Trump’s de-regulation themes,” Spencer says.
Private credit
Interest rate rises may have forced deal-flow lower in infrastructure, property and private equity, but it has had the opposite effect on private credit. “The equity story has differed from what we have seen on the credit side,” Martin says. “Private credit has continued to be a busy space with lots of refinancing activity.
“Next year we will see more M&A activity, which has often led to new issuance of sub-investment grade private credit,” he adds. “So we might see more deal-flow there.”
Indeed, almost half of the institutional investors PGIM spoke to (44%) are looking to increase their exposure to private credit, thanks to a favourable risk pro le and healthy yields, which historically have been low double-digits.
And the growth in private credit next year could change the dynamics of the market. The International Monetary Fund estimated that the global private credit market was worth $2.1trn (£1.6trn) in assets and committed capital in 2023, with around three-quarters of that based in the US.
While the European private credit market is less developed than in the US, the gap could close if the region’s growth expectations for next year prove to be accurate.
Infrastructure
Globally, the outcome of the US election will prove to be influential over investor attitudes towards infrastructure. Especially as Trump has made statements that point to the potential repeal of the Inflation Reduction Act.
“It has created uncertainty around the clean energy transition and the exact path of policy in the US over the next four years,” Martin says.
“The immediate market reaction to clean energy stocks was quite challenging after the election outcome, which tells you that the market is interpreting this as being at least a greater source of uncertainty around clean energy in the US,” he adds.
However, it is a different story in Europe.
Martin describes lifting the ban on onshore windfarms in the UK as “constructive”. “The pricing of UK clean energy assets looks interesting at the moment, but that is true for Europe as a whole.
“The last one to two years has seen a real recalibration in terms of the expected returns from clean energy assets,” Martin says. “We are seeing assets available now at a price which we think offers the right risk-adjusted return in this interest-rate environment. It is a much more constructive place than it was 18 months to two years ago.”
Spencer describes the lifting of the onshore wind farm ban as “positive” in that the ruling was a “significant constraint” on infrastructure projects in the UK.
However, he does not expect it to impact the market in the year ahead. “It will be an emerging theme, but it is more 2026 to 2028 until we will see the benefits.”
Clean energy will not be the only driver of infrastructure demand next year. “We definitely subscribe to the view that there will be tailwinds behind the digital infrastructure build out,” Martin says.
This means networks, towers and data centres. “There is a lot of discussion about artificial intelligence (AI) and the growth in data centre demand that it can generate. AI is part of the story, but so is data sovereignty.”
Martin believes that regulation around holding data closer to where the owner sits could spur demand for new data centre capacity in Europe. “There is also an ESG and a sustainability angle here, which is positive for purpose-built data centres,” Martin says. “There is an awful lot of data storage and servers that still sit in company offices, which is inefficient from an energy perspective.
“Bringing those assets into purpose-built modern data centres is the more energy efficient answer here,” Martin says. “So data centres are a big source of growth alongside wider digital infrastructure.”
Another trend could emerge in infrastructure in 2025 and it may involve how the assets are managed. Now that interest rates are putting margins under pressure, will there be a focus on the operational efficiency of these assets in 2025?
Martin says that this will be more relevant to the mature areas of infrastructure, such as utilities and networks. “Those businesses are going to be challenged where they are working on relatively narrow margins,” he adds. “There are cost pressures and a certain amount of regulatory inflation pass through, but investors are going to be looking hard at the ability for margins to either be maintained, expanded or equally contracted.”
Following the global monetary policy tightening cycle, investment returns from infrastructure debt investing offer similar returns to equity investments, with the added benefit of down- side protection due to strong covenants.
Infrastructure equity valuations have been squeezed due to higher interest rates, rising energy prices and supply chain disruptions, resulting in less dealmaking.
Infrastructure equity investors benefitted from a favourable environment in the pre-pandemic world due to low interest rates, but that world has changed dramatically, requiring a greater focus on operational improvements.
Indeed, 37% of survey respondents expect to increase their allocations to private infrastructure debt over the next two years. Low volatility in cash flow is a key factor for institutional investors.
Investor enthusiasm for infrastructure equity is more restrained, with 28% of institutional investors expecting to increase allocations over the next two years.
Pre-pandemic, return on equity for core infrastructure fell to single digits. While the returns have climbed as interest rates have increased, the deals market remains challenged. However, large fundraisings indicate that infrastructure equity financing is improving.
Transport, logistics and communications infrastructure top investors’ preferences. The transport sector underwent a structural change during the pandemic as companies preserved their cash. The strong focus now for the sector is reversing that underinvestment trend.
Meanwhile, communications infrastructure stepped into the limelight as businesses moved online during the pandemic, and subsequent hybrid models have been adopted. In recent times, the shift to electric vehicles and adapting to newer technologies has boosted appetite for these sectors.
In contrast, utilities infrastructure recorded the least interest, with only 25% of survey respondents likely to increase their allocations over the next two years. Adverse headwinds in the sector are keeping investors on the sidelines.
One institutional investor which will be active in the infrastructure market is Railpen. Its liabilities being in sterling and linked to inflation make the pension scheme a UK-centric investor. The scheme’s members living in the UK, so their investments should benefit them and their communities, is another reason.
The energy transition, across renewables, storage and networks will continue to be of interest in 2025. This is why Railpen will be watching the government closely. Lewis Vanstone, an investment director at Railpen, says the scheme will be interested to see what shape GB Energy and the national wealth fund takes.
“The national wealth vehicle needs to be focused on additionality and the difficult areas to fund,” Vanstone says. This could mean struggling areas, such as hydrogen, and not more wind and solar, for which there is high interest among investors.
Real estate
Demographics, digitalisation, de-carbonisation and de-globalisation will continue to drive investment into real estate in the year ahead. For LGIM, these tailwinds are particularly strong in the UK for residential property.
Martin says that most schemes have modest exposures to the asset class, offering the potential for building residential into real estate portfolios. “What will be different next year, is asset owners looking at a wider diversity of different types of residential,” Martin says.
Build-to-rent has been a big focus over the last three to five years, while student accommodation has grown over two decades. “We are now seeing a lot of interest and potential in affordable housing,” Martin says.
This could include the growth of suburban build-to-rent, which are purpose-built houses rather than flats, in different kinds of location, he adds.
More co-living properties could also start joining institutional portfolios next year, as could housing for seniors. “There is still a lot of growth in residential, but also residential of different kinds,” Martin says.
Industrial is another area LGIM sees as being relatively strong within real estate, although instead of the large, big box logistics units, it tends to focus on smaller assets on the edge of cities, where restrictions on land use tend to keep vacancies low.
“That is benefiting from the continuing build-out of ecommerce,” Martin says. “So we are seeing a lot of demand from companies who need to be able to fulfill online orders. We still think there is a lot of growth there.”
Nest is also interested in domestic property. “The UK real estate market is quite transparent and is ahead of other global markets in terms of correcting and being at a level that we think is quite attractive,” Farrell says. “So we are in the process of re-directing some of our global REIT exposure into UK direct real estate.”
This will be core real estate. Nest’s manager continues to like retail and industrial in particular, but sees selective opportunities in the office market. “We are starting to see that market bottom out,” Farrell says. “Not all offices are the same anymore. It is location specific.”
Given that real estate has corrected quite a bit across the UK and Europe, Nest is also looking at real estate private credit. “In some cases, valuations of real estate have fallen, the leverage levels have come down, and yet you get a slightly higher premium when you are issuing private credit right now in that sector,” Farrell says.
“So on the margin, it is quite an interesting time to look at private real estate credit as well,” she adds.
For Spencer, one area of property will remain a strong theme for pension funds. “Social housing sits shovel ready, if you like,” he says. “You could be getting on with it now. Other [areas of real estate] will emerge, but probably slightly further out.”
It appears that despite a challenging period for the real estate market, the reset in valuations is leaving investors optimistic about the asset class.
Conclusion
With political uncertainty being lifted on both sides of the Atlantic, we are moving into a new era, and it means that pension schemes and insurers are retaining their bullishness for alternative assets.
“We have been on a journey over the last 10 years where we have seen a lot more investor interest in private markets,” Martin says. “There is a lot of momentum behind that. The search for diversification, the desire for achieving a return pickup from complexity and illiquidity – those are definitely still there.
“The new aspect, to some extent, our research has shown, is that investors are interested in sustainability, and impact is important for private markets as well. Asset owners are telling us that they believe they can achieve greater social and environmental impact through private markets. So those things are important too. The rate cycle over the last couple of years has put a slowdown on private market activity and allocations. Next year is the year that it starts to improve again.”
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