In recovery mode

Emerging markets are not the hot ticket they once were in private equity. Fundraising for these economies peaked at $81 billion in 2011 and has been on a downward slope ever since.

Private equity funds focused on emerging markets collected $44 billion to November this year, meaning that by year-end figures may not even reach the $52 billion raised in 2013, which was already a 13 percent decline from the $60 billion raised the year before, according to data compiled by PEI’s Research & Analytics division.

But despite the general wane, this year certain emerging market favourites have seen a recovery. The BRICS, overall, continue to attract investment – although Russia has been feeling the impact of geopolitical instability.

A mere $700 million was raised this year for Russia – a sharp drop from the $3.4 billion raised in 2013, but unsurprising as the political row over Ukraine overshadows the appeal of a country that had made considerable progress in developing its private equity market.

Tellingly, Russia’s biggest private equity supporter, the European Bank for Reconstruction and Development (EBRD), announced in July it that would stop all new investments in the country, despite an active pipeline. We have more on Russia on p. 46.

In Latin America, meanwhile, Brazil’s private equity market is recovering (see p. 42), but although other other economies on the continent are attractive and steadily maturing, the opportunity set for private equity investment remains small.

Africa, too, keeps investors wary (p. 33). Interest is strong and a lot of capital has been raised for the continent, particularly in sub-Saharan Africa, but LPs are also concerned about a growing capital overhang and a plethora of risk, some of it real, some of it perceived.

Where optimism prevails perhaps most strongly is once again with the Asia giants China and India (see below and overleaf). “In Asia, you’ve got these two powers with populations of over one billion people and they keep on moving forward,” says Mounir Guen, chief executive of MVision Private Equity Advisers, the placement group. “China has always been an area of interest, and [now] India has gone through some changes.”

Guen has raised private equity money for countries as far flung as Peru, and to him, right now Asia offers the most attractive private equity opportunities of all the non-OECD regions.

India in particular, which to many has been the biggest disappointment in emerging markets private equity recently, seems back on the LP radar. After the swearing in of pro-business prime minister Narendra Modi this summer, private equity practitioners appear to have begun to believe in the country once more.

BETTER LATE THAN NEVER

The case against investing in emerging markets private equity is still built around the fact that there is only a limited track record, and little money has been returned to LPs.

However, this argument could soon be in refute. According to recent data compiled by Cambridge Associates, first quarter emerging markets fund distributions rose more than 16 percent over the preceding quarter to $4.2 billion – the second highest quarterly payout ever recorded.

LPs in the 2005 and 2007 vintages were the primary beneficiaries, receiving more than 68 percent of the capital flowing back.

It’s a start, but it certainly will need to be sustained if LP confidence is to be restored fully. Cambridge data also shows that overall, emerging markets private equity funds returned 14.4 percent, 15.5 percent and 12.3 percent over the one-, five- and 10-year periods ending 31 March 2014. The performance reflected in these numbers isn’t awful, but neither does it compare favourably with developed markets (ex-US), which returned 20.9 percent, 15.6 percent and 14.1 percent over the same time periods.

Emerging markets private equity, in other words, still has work to do. Whether investors are right to be demanding a premium over mature markets is a moot point. But while the long-term potential seems undeniable, and nowhere more so than in Asia, LPs making fresh allocations will need to tread carefully. Any capital that isn’t being managed by one of the outstanding managers has a question mark behind it. This is true for private equity generally. But in the world’s growth markets, it should be treated as dogma.