Following a bumper year in 2021, private equity activity is expected to carry on the momentum through 2022. Deal volume reached record levels in 2021, measured by dollar value and deal count, according to data from PitchBook. This year may not exceed the impressive totals from 2021, but conditions appear ripe for another epic year even as downside risks exist.
Investors bought into the private equity success story in 2021, as evidenced by the performance of the publicly listed private equity firms that outperformed the broader stock market by a wide margin. The positive sentiment and growing demand for private equity exposure aided the capital-raising efforts of private equity firms in 2021.
PitchBook data shows that while fundraising by private equity funds did not beat the record set in 2019, last year was the second-best year on record for new capital raised. Private equity funds are flush with cash coming into 2022 after three successive years of robust fundraising activity. The dry powder of U.S. private equity firms is fast approaching $1 trillion after closing 2021 at $827 billion, and the race to deploy this capital should keep the appetite for deals alive.
A healthy U.S. loan market also supports the growing demand to finance more private equity deal activity, as it will provide the debt financing required in leveraged buyouts. Lending reached peak levels in 2021, and this year is off to a brisk start.
Adding to the constructive deal environment, economic growth for 2022 is expected to be above the long run trend of 2%. In the Federal Reserve’s Summary of Economic Projections, last published in December, real gross domestic product growth was projected in the range 3.2% to 4.6%. This level of expected growth, following an upbeat end to 2021, suggests conditions will be on solid footing to allow deal activity to flourish.
Meanwhile, concern over inflation, supply chain constraints, and the continuing threat posed by COVID-19 will likely shake confidence at various points during the year, but we expect private equity deal momentum to remain fairly resilient.
Developments to watch
In the January meeting of the Federal Open Market Committee, the Federal Reserve prepared markets for a shift to a more restrictive monetary policy stance. Although the Fed is widely expected to announce at its next meeting in March the first interest rate hike since the onset of the pandemic, interest rates will remain at relatively low levels and the cost of financing deals will continue to be attractive. Even when factoring in four to five rate hikes this year, benchmark rates will still be below pre-pandemic levels.
A bullish stock market with contained levels of volatility contributes to positive sentiment and financial conditions that are accommodative of deal-making activity. The year is off to a shaky start in this respect, with January turning out to be the worst month for stocks since March 2020. A sustained period of weakness in the stock market and bouts of elevated volatility could create unfavorable deal conditions. Despite the pullback in January, U.S. financial conditions remain above neutral levels; however, it will be worth watching how conditions fare as the year unfolds.