Talk to anyone active in the Australian private equity scene and it’s clear there are some solid grounds for optimism. Fundraising is expected to top A$4 billion ($2.98 billion; €2.57 billion) this year, the economy continues on its record-breaking run of 27 straight years of economic growth, and, despite some worries about high valuations, dealflow remains strong.

So what is driving the market? Here are seven key trends set to impact Australia’s private equity landscape over the next 12 months, according to leading market participants.

1. Spin-outs are shaking up the market

“Truly impressive,” is how one Nordic-based LP describes Ben Gray (pictured), whose plans to raise A$2 billion with his debut Australia and New Zealand fund were initially met with disbelief by some investors. The fact Gray, a former managing partner with TPG, raced to a A$2.6 billion final close, was testament to the vibrancy of the Australian market.

Gray’s BGH Capital is just one of a number of spin-outs to have raised debut vehicles in recent months. Former Pacific Equity Partners managing directors Anthony Kerwick and Rob Koczkar secured A$600 million for their new firm Adamantem Capital, while Archer Capital alumni Andrew Gray and Rishabh Mehrotra have set up Potentia Capital to target Australia’s thriving tech scene.

“These are very exciting funds raised by hungry GPs wanting to prove themselves,” says Eugene Snyman, regional head for Australia and New Zealand at Cambridge Associates.

2. All eyes are on fees and expenses

A big potential source of investment for private equity funds is the A$2.5 trillion in savings held by Australia’s compulsory defined contribution system. One deterrence is a new regulation, known as RG 97, to enhance superannuation fund fee and cost transparency. Introduced last October by the Australian Securities and Investment Commission, Martin Scott, head of Australia at Partners Group, describes it as “a monumental mistake”.

The trustee boards of the superannuation funds to try and get their fees down to compete,” he says. “What’s happening is a race to the bottom and the fees will also be replicated with (lower) returns as many of the funds index their investments to avoid costs.”

The Australian Private Equity and Venture Capital Association has lobbied hard: “The discussion around fees and costs must go alongside the discussion about returns and the long-term advantages of investing in an active investment strategy,” says Yasser El-Ansary, AVCAL chief executive. El-Ansary is hopeful an independent review will tame RG 97. “It’s still a work in progress,” he says.

3. Returns are holding up well

Snyman describes Australia as “a well-honed market place” with returns comparable to global private equity and “very attractive” in the context of local public markets in Australia.

“If you look at PE over a 10- or 15-year period, returns are comparable with those that you would see in Europe or the US with a 500 basis point improvement on the public markets, which rises to 1,000 basis points for the top two quartile managers.”

Why the outperformance? Snyman says private equity gives you far more exposure to the consumer sector, certain industrial sectors and healthcare: “There have been strong trends in all these areas.”

4. Overseas investors are a strong source of exits

The Riverside Company, which is currently investing its $235 million Asia-Pacific Fund II, has made three exits in the last six months – all to overseas buyers: occupational rehabilitation specialist Work Health Group to US-based ExamWorks in April; animal health company Simcro to Swiss-based Datamars in March; and online compliance training provider Learning Seat to California-based Callidus Software in December.

“We are increasingly seeing Australia becoming a very attractive market for offshore buyers, particularly companies seeking scale,” says Melbourne-based Simon Feiglin, a managing partner.

“And that overseas interest is from all over the world – European, Asian and North American interests. And it’s from all over Asia – China, Japan, Philippines and Thailand. We think that’s going to increase.”

5. The rise of credit funds

Another big trend, Feiglin says, is the entry of the credit firms. Over the last two years, as many as 15 credit funds have entered the Australian market, including the likes of Barings, ICG and Goldman Sachs “with a significant appetite to deploy capital and lend money”, he says. “We’ve seen new debt packages which exist elsewhere in the world: unitranche facilities, term B loans – which have been common technology in the US and Europe and are just starting to come to Australia. They will probably lead to high valuations because there is higher liquidity.”

6. Valuations are a ‘challenge’

The increased availability of credit is just one factor pushing up valuations, which AVCAL’s El-Ansary concedes can be a “challenge” especially in the booming health sector.

The predominance of Australian-only PE funds and the increased tendency of superannuation funds to ‘step out’ and do their own deals is also raising deal prices, says Scott of Partners Group.

“There’s a lot of capital chasing few deals and for that reason valuations are pricey locally, but also globally, so sometimes we prefer to invest in the debt instead of the equity,” he says.

7. Innovation incentives

Government policy has shifted in the last two years to encourage innovation – and it appears to be paying dividends. “We had a lot of catching up to do,” says El-Ansary. A game-changer, he says, was the launch two years ago of the National Innovation and Science Agenda. There were incentives to encourage pension funds to invest in start-ups, changes to immigration laws, and a dedicated fund to stimulate VCs to commercialise medical research.

Venture capital fundraising doubled to A$1.32 billion in FY 2017, says AVCAL.“It’s a very exciting trend in Australia and gained quite a lot of traction from firms such as driverless car start-up Zoox and quality inspection app Safety Culture, which is in its third round of fundraising and has a $440 million valuation,” says Snyman.