Australia’s sovereign wealth fund Future Fund has noted that the challenging economic and market conditions globally have made it attractive to diversify into areas not linked to traditional equity or debt market, highlighting the role of private equity in its investment portfolio.
With 10.4 per cent of its current asset allocations in the private equity category, Future Fund said, in its annual report 2015-2016, venture capital and growth equity accounted for around 46 per cent of its private equity programe, which itself is valued at around $12.8 billion.
“We are attracted to investing where genuine innovation and wealth creation are occurring,” said the Australian wealth fund’s Head of Private Equity Steve Byrom in the report.
In this category of investments, Future Fund includes private equity funds and related co-investment opportunities such as buyouts, growth equity, venture capital, distressed for control and secondaries across developed and emerging markets.
“In a challenging global economic and market environment, investments that aren’t correlated to traditional equity or debt market returns are particularly attractive. That is why the role of private equity and particularly venture capital and growth equity in the Future Fund’s portfolio is more important now than it has ever been,” the report noted.
“We have chosen to partner with a small number of venture capital fund managers, investing in their funds, and increasingly co-investing alongside them into some of their fast growing, larger breakout companies. We continue to be attracted to companies that have novel business models and idiosyncratic growth drivers and would expect this part of our investment program to continue to grow in the future,” the report said.
The fund believes that the world is in the midst of a multi-wave innovation cycle driven by empowering the consumer, cloud computing, big data, machine learning and mobile connectivity. “These waves, when combined with the low cost and componentisation of computing, are providing significant opportunities for new, and often disruptive, business models to emerge,” it said.
Themes around collecting, storing and using data, internet security and using the cloud to transform business models have all provided attractive areas for investment, it added.
“Importantly, through our venture and growth equity programme we gain insight and economic exposure to disruptive technologies – and we can take these insights away and make more informed investment decisions in other sectors including listed equities, property, infrastructure and debt,” the report said.
As of 30 June 2016 the Future Fund had $20.5 billion of capital (invested plus committed) with 29 private equity managers. During the year the fund allocated $0.6 billion to four new managers and a further $2.3 billion to existing managers, including co-investments alongside those managers.
Invested capital increased from $12.6 billion to $12.8 billion over the course of the year, reflecting $2.6 billion of capital calls, $4 billion of distributions and $1.6 billion of unrealised asset value appreciation.
Of the capital called, 35 per cent was for buyout opportunities, 32 per cent was for venture capital and growth equity opportunities, 3 per cent was for secondaries, 24 per cent was for co-investments and the remaining 6 per cent was invested in distressed opportunities.
However, it must be noted that despite emerging markets that includes Southeast Asia, Future Fund maintains its portfolio’s concentration in developed markets while it continues “to hold sizable but reduced exposures to Australia and emerging markets.”
The fund’s listed equity portfolio is valued at $26.98 billion (A$35.4 billion) as at 30 June 2016. The portfolio, as a percentage of the total Future Fund, has been reduced from 33.8 per cent at June 2015 to 28.8 per cent at June 2016.
“This change reflects the impact of negative returns in developed and emerging markets combined with the decision to reduce the overall risk in the Future Fund. We implemented reductions across all of our sub-sectors. Separately, we have re-balanced our developed markets sub-sector to achieve a better balance of investment exposures given the market environment,” the report said.
We maintained a large defensive core through our exposure to quality stocks and emerging wealth strategies (which allow investment in developed companies with underlying emerging markets exposure). These strategies were beneficial as they provided some protection against the negative market returns in developed and emerging markets over 2015/16.
“Our expectation is that listed equities will continue to provide modestly positive, but lower than average, returns going forward while significant bouts of market volatility appear likely,” the fund noted.
During the last year ended June 30, the fund also took advantage of favourable secondary markets to re-balance the private equity portfolio. The portfolio had become rather large due to strong performance and the fall in the Australian dollar against the US dollar.
“Our private equity strategy is predicated on our view that private equity fulfills two functions within the Future Fund’s investment portfolio. The first is to invest in high ‘alpha’ opportunities, where we believe we can earn a significant premium over similar but more liquid equity investments.
Most of these investments would fall in the buyout, co-investment or secondaries categories. The second function is to expose the Fund to investment themes that it cannot readily gain exposure to through other more liquid investments,” the report said.