The $3.9trn sector is moving past classic unlisted assets to look at private debt, more creative private equity, social infrastructure and energy transition assets.
As Australia’s booming superannuation sector edges past $4 trillion, it has long ago outgrown local markets and even listed options. And while unlisted investments in infrastructure and real estate are still a favourite of industry funds, even those asset classes are getting too saturated to provide the diversification and home for capital they sorely need.
So where are funds looking to increase their exposure locally and offshore? Private credit and equity instruments are still a small part of their portfolios, but are rapidly growing as they partly fill this space.
“A few years ago, if we were talking about private markets exposure in super, it would have focused around property, infrastructure and for some, private equity,” Mercer CEO for wealth Cathy Hales says.
“But now, each of those segments have expanded with additional styles and options, and we have new areas with depth to explore.”
This includes private debt, greater local and international breadth in private equity, and evolving areas like social infrastructure and energy transition assets.
Members stand to benefit as these assets are often delivering stronger returns than the now quite concentrated listed market alternatives, Hales says. It also gives funds another way to access valuable trends, with AI “an obvious standout”.
In terms of where funds are investing, the most attractive private asset classes depend on the fund.
“For younger cohorts, private equity, venture capital and the more opportunistic styles of private debt or real estate might appeal given the long-term investment horizon those investors will have in super,” Hales says.
Hospitality industry fund Hostplus is a case in point. With the youngest median member age of any major fund, it invests early and aggressively in private equity and venture capital and has backed some of Australia’s most exciting start-ups.
“Then for pre-retiree and retired cohorts, the more stable and income-oriented returns from core real estate and infrastructure and the more stable direct lending forms of private debt would appeal,” Hales says.
“I think the challenge for super funds is to take advantage of the diversity we now see in private market opportunities to tailor exposures for the needs of members, according to their investment horizon, and appetite for income or capital growth.”
PGIM Private Capital managing director and head of Australia private credit Michael Jones says while funds benefit from the value, they are also drawn to private equity and debt to diversify their broader portfolios.
“This is happening across private credit, real estate, infrastructure and private equity … the phenomenon isn’t just happening locally; globally institutional investors are also allocating more capital to private markets.”
Risks ahead
The increased access to capital means companies can stay private for longer, enabling them to invest for the long term without the concern of near-term earnings that listed firms face, Jones says.
“It is [also] creating new avenues for companies to secure longer-term debt funding, since they don’t have to access the public fixed income market.”
According to Mary Delahunty, who heads the Association of Superannuation Funds of Australia and has done extensive research in this area, funds’ ability to lend is becoming critical to the domestic economy.
“The funds play a role where traditional lenders, like banks, may not be the optimal partner … this is especially true in times where businesses are looking for opportunities to restructure their balance sheets,” she says.
But to access these deals with appropriate risk protections, funds need to improve their investment and compliance capabilities.
First, they need to build their internal capability to access these deals directly or work with asset managers who can help them do so.
“Building internal capability or using external managers or a combination of both, as well as identifying where the spreads are most attractive – these are live conversations within funds right now,” Delahunty says.
The Australian Prudential Regulation Authority has already warned super funds about inadequate valuation processes for traditional unlisted investments such as property and infrastructure. Private credit adds a new realm of regulatory risk, as watchdogs question investors’ transparency around these investments.
Jones says funds also need to grapple with the fact private debt and equity deals are usually fairly difficult to exit quickly, and they may need to ride out downturns.
“When entering such transactions, it is important to understand that these investments are not readily tradeable,” he says. “They typically involve highly levered middle-market companies that are in a growth mode, meaning issues can – and often will – arise during the investment period.”
Funds must be patient when these issues arise and, remember, solutions are rarely quick to materialise, he says.
But Hales adds that for those who stick with it, the returns and diversification benefits are clear.
“Private markets are now not only larger and deeper markets for super funds to explore, but in many cases they have delivered stronger returns than the now quite concentrated listed market alternatives.”
