January 2021

2021 Market Preview2021 Market PreviewAlternative Asset Classes

CONTENTS

03 Hedge Funds: Poised for Another Record Year?

09 Real Estate: Finding a New Normal

16 Infrastructure: An Evolving Opportunity Set, but an Essential Allocation

21 Private Equity: Both Quality and Growth Shine Brightly in 2020

27 Private Credit: Two Steps Forward, One Step Back

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2020 left investors across the world wondering what the future looks like. Will vaccines prove effective in halting a pandemic that spread like wildfire across the globe? What will the impact of a new administration in Washington be on economies and markets? How much additional stimulus will be injected into the economy? And most broadly, will things ever get back to “normal?” While there are no easy answers to these questions, 2021 promises to be another volatile year, most especially until there has been sufficient roll-out and distribution of vaccines to contain the COVID-19 outbreak that continues to haunt economic growth across the globe. Remarkably, 2020 ended up as a positive year for financial markets despite a massive sell-off in the equity and credit markets during February and March. Paradoxically, 2021 may be a less eventful year but at the same time a lower overall return environment, given that much of the optimism about economic re-openings and stimulus has already been priced into the markets. Nonetheless, there are a variety of factors worth monitoring over the next year which will directly impact market returns. Similar to past years, we offer our 2021 market preview newsletters for each of the primary asset classes we cover, with in-depth analysis of last year’s performance as well as trends, themes, opportunities, and risks to watch for in 2021.

We hope these materials can assist you and your committees as you plan for the coming year and beyond. We have also produced a 2021 Market Preview video if you would like to hear a high-level summary of the market previews. Should you have any questions about anything related to these materials, please feel free to reach out to any of us for further assistance. Here’s to a return to normalcy in 2021!

Greg Leonberger, FSA, EA, MAAADirector of Research, Managing Partner

INTRODUCTION

https://www.marquetteassociates.com/research/2021-market-preview-video/http://www.marquetteassociates.com/people/greg-leonberger-fsa-ea-maaa/

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Hedge FundsPOISED FOR ANOTHER RECORD YEAR?

2021 Market Preview

Joe McGuane, CFASenior Research Analyst, Alternatives

Jessica Noviskis, CFASenior Research Analyst, Hedge Funds

In a challenging year filled with uncertainty and unpredictability, hedge funds were a bright spot, performing exactly as expected. Hedge funds helped protect capital during the sell-off in February and March, participated in the recovery off the bottom, protected again amidst the pullbacks in September and October, and throughout the year helped offset heightened market volatility. Hedge funds, as measured by the HFRI Composite Index, returned 11.6% in 2020, trailing the S&P 500 up 18.4%, but with half the volatility. As a result, hedge funds saw record inflows in 2020 and exited the year at peak asset levels.

As we look forward into 2021, we see a number of reasons to expect continued market fluctuations and volatility. A narrowly Democrat-controlled government will try to make strides in a sharply-divided country. Business leaders and policymakers will manage against an unusual mix of early- and late-stage dynamics. Headlines will continue to oscillate between COVID case numbers and vaccine progress. Against this backdrop — and with equity valuations near highs and rates and spreads near lows — hedge funds may be some of the best investments for 2021. Hedge funds can improve portfolio diversification, reduce volatility, provide downside protection, and in this environment may also be best positioned to play offense, to take advantage of the windows of opportunity created by the uncertainty and ultimately, generate top returns.

EQUITY LONG/SHORTEquity long/short was the strongest performing hedge fund strategy in 2020. Long/short managers, with the flexibility to be more opportunistic and generate alpha on both the long and short sides of a portfolio, were especially well positioned for the year’s volatility. Through March, equity hedge funds were down 13%, holding up better than the S&P 500 down almost 20%. Through the pullback, managers cut

https://www.marquetteassociates.com/people/joe-mcguane-cfa/https://www.marquetteassociates.com/people/jessica-noviskis-cfa/

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Exhibit 1: Record net alpha generated in 2020

exposures, meaningfully reducing gross and net leverage, and generated strong short alpha. Funds were quick to add exposure back for the rally and ultimately generated record levels of long alpha. All in, total net alpha for global long/short funds in 2020 was the strongest in history.

While long/short stood out in 2020 for its uncorrelated returns, lower volatility, and downside protection, the group may be even better positioned for what should be a strong stock picker’s market in 2021. For most of 2020 the market was largely driven by macro factors — first the negative impact of COVID-19 and the related shutdowns and then the prospect of a recovery. Stocks largely moved up and down as a group, with idiosyncratic fundamentals less important. While macro factors will no doubt remain influential in 2021, company-specific drivers and risks should begin to come back to the forefront. The COVID pandemic pulled forward a number of developing trends that furthered the divide between the haves and the have-nots: companies adapting to and excelling in new and changing environments versus those struggling to keep up, resilient assets with valuations caught up in the panic versus wrongly-assumed or temporary beneficiaries facing an eventual correction. Long/short managers are uniquely positioned to profit on all sides, and managers with proven stock-picking track records should have a distinct and sustainable edge over passive or more constrained managers.

Technology in particular will be a captivating space to watch in 2021. The tech sector is strongly suited to long/short, marked by an unmatched pace of innovation and an ever-evolving universe of disruptors and disrupted. The digital transformation was more accelerated by COVID than even the most bullish tech managers could have predicted. Some stocks up several hundred percentage points are just scratching the surface of their ultimate opportunity, while some up far less are already over their skis. The tech sector was the strongest driver of long/short alpha in 2020 and many tech-focused hedge funds put up exceptional numbers. Though it would be imprudent to expect a repeat, the opportunity long and short remains considerable for thoughtful tech managers. Even to the extent a value rotation continues, investors should feel confident that secular can continue to prevail over cyclical.

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Return StandardDeviation

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HFRI EH: Technology HFRI Equity Hedge HFRI Composite

Source: Hedge Fund Research

Exhibit 2: Tech-focused funds have outperformed with less volatility than the broader peer group

CREDITCredit hedge funds ended the year in the green after a rough start. The first quarter of 2020 was the worst for debt markets since the Global Financial Crisis in 2008. The quality of credit markets had weakened considerably throughout the most recent expansion, illustrated by the charts in Exhibit 3, and as the uncertainties of COVID took over, credit spreads blew out and liquidity evaporated, sending assets across structured credit, U.S. municipal bonds, investment grade bonds, levered loans, and high yield bonds sharply lower. Central banks stepped in with aggressive monetary policy actions and credit markets broadly rallied through the second quarter. Investment grade and higher-quality high yield bonds saw the sharpest rebound, with the Federal Reserve providing substantial quantitative easing via the purchase of both index and single-issue credit. Lower-rated high yield and distressed credit continued to lag through the year, with businesses directly impacted by COVID still under extreme distress. In structured credit, while collateral loan obligation (“CLO”) AAA tranches have fully recovered from their March lows, lower-quality tranches have yet to recover (Exhibit 4) amid the unprecedented wave of downgrades and the lack of support

Exhibit 3: The search for yield drove exponential growth in higher risk credit markets

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from government buying programs. Commercial mortgage-backed securities (“CMBS”) also struggled as delinquencies rose in the retail and lodging industries.

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Sources: All BSL USD CLO deals issued after 2010 from Markit and Kanerai

Exhibit 4: The percentage of CLO loans trading below $80 (a key threshold indicating distress) has fallen considerably after hitting a peak of 29% in March

While many credit markets have rebounded strongly off their early 2020 lows, we continue to expect some sectors directly exposed to COVID are primed to experience microcycles as their capital structures morph the longer their businesses remain closed. Companies in the lodging, retail, gaming, consumer products, and transportation sectors continue to feel immense pressure on revenues and earnings. The recovery from here remains uncertain and will likely prove uneven. With the weakened quality of leveraged credit markets over the last several years, many companies are still facing the possibility of rescue financing, bankruptcy, or out of court restructurings. We expect the magnitude of the economic impacts of the pandemic will give rise to long and short trading opportunities across the credit spectrum for a number of years.

VOLATILITY RISK PREMIUMAfter a mixed year in 2020, Volatility Risk Premium (“VRP”) funds are starting 2021 from a position of strength. Early losses in 2020 held back full year returns, but market conditions after the extreme moves down and up created a favorable backdrop for VRP managers. The VIX Index, a proxy for implied volatility, remains above average, while realized volatility in the S&P 500 has now fallen below average, creating a well-above average volatility risk premium spread. Option premiums collected are higher while the risk of options expiring in the money and triggering a payout is no greater than average. With VIX in the low 20s, at-the-money put options generate roughly 2% in monthly premiums, a 24% annualized return. Managers expect this favorable backdrop to remain through 2021 as the market reconciles valuations near highs with the uncertainties of the vaccine rollout, a new administration, and a global recession.

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MERGER ARBEvent-driven and merger arbitrage funds ended 2020 solidly positive after a rough start. The COVID pandemic and related shutdowns slowed M&A activity and blew out deal spreads to levels not seen since the Global Financial Crisis. While some deals did fail, many more prevailed and the corporate transaction market was back to pre-crisis levels by the second half of the year. As we progress into 2021, there are many reasons to expect M&A activity, and the opportunity for merger arbitrage funds, to remain high. There are high-quality assets trading at discounted prices post the market sell-off. There are companies looking to bolster growth or adapt business models for a post-COVID world. And there are private equity managers sitting on a mountain of dry powder and other companies flush with cash after raising capital amid the pandemic, in addition to the access afforded by low rates and a healthy credit market. Event-driven and merger arbitrage funds can offer another layer of diversification for portfolios, especially if valuations are concerning.

CONVERT ARBConvertible arbitrage was one of the best performing hedge fund strategies of the year, as this previously sleepy strategy saw a renewed opportunity set. The perfect storm of heightened market volatility, near-zero rates, and tight spreads backstopped by the government created the most compelling convertible landscape in years. The new issue market hit an all-time high as both companies directly impacted by COVID and desperate for cash as well as companies with pristine balance sheets looking to monetize the new volatility regime turned to the convert market. Converts rallied from April on, with hedge funds in the space putting up consistently strong returns post the Fed stepping into the markets. We expect the convertible arbitrage opportunity to remain compelling in 2021 to the extent that interest rates stay low and market volatility stays high.

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Exhibit 5: Volatility risk premium corrected from the inversion earlier this year to above-average levels

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MACROMacro hedge funds on average ended 2020 in positive territory. While a number of funds were able to capitalize on the year’s economic and political turbulence, others struggled. Equity allocations contributed positively post the sell-off in March as central banks around the world stepped in to support markets. Rates trading was also positive, as managers found opportunities long and short across the yield curve in the U.S. and globally. Currency trading yielded mixed results amid the volatility created by rapidly changing conditions across geographies. Emerging market credit positions were a drag on performance for most of the year as certain countries were hit especially hard by the pandemic. From here, we expect performance could remain volatile, as uncertain vaccine distribution shapes the path of recovery. Central bank activity and the outlook for inflation and interest rates will be key variables for macro funds to navigate as the new year progresses.

QUANTQuantitative and systematic funds struggled in 2020. These strategies are based on traditional market factors and historical market relationships that unsurprisingly did not deliver the same results in such an unprecedented year. Is COVID a temporary departure from the mean or a more meaningful regime change? Performance in 2021 will depend on the extent that market conditions return to more normal patterns, with some funds — like the risk premia managers betting on value and size factors who underperformed both before and after the rotation in early November — owing investors more of an explanation.

CONCLUSIONAs the uncertainty of 2020 becomes the uncertainty of 2021, and as investors consider the implications of equity valuations at highs and rates near lows, we recommend an allocation to hedge funds. Alternatives play an important role in portfolios, especially when opportunities in traditional asset classes may be more limited, and hedge funds have a liquidity advantage over private investments. We recommend institutional-quality managers with a track record of generating alpha over an extended time period and across a range of markets, who are tactical but stick to their knitting when tested, with reasonable fees and a strong alignment of interests. These funds can help diversify a portfolio, reduce volatility, provide downside protection, and improve overall returns, especially in periods of heightened uncertainty. We do not know what 2021 holds, and that is exactly the point.

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Real EstateFINDING THE NEW NORMAL

2021 Market Preview

Will DuPreeSenior Research Analyst, Real Assets

On the backdrop of low interest rates, economic growth, and low inflation, real estate thrived over much of the past decade. For many investors, the asset class was a “set it and forget it” allocation that generated consistently high returns and attractive yields. However, as we moved later into the cycle, performance dispersion across sectors increased as a result of technology disruptions and evolving societal trends. At the onset of COVID-19 this became more visible than at any other point in the cycle. While COVID-19 was the catalyst that ended the previous market cycle, it also pushed real estate markets further in the directions they were already moving. Real estate performance as measured by the NFI-ODCE open-end core real estate index is on pace to deliver flat to slightly positive returns for the calendar year 2020. Performance continues to lag due to declining property types experiencing further distress during the pandemic.

Within the ODCE, Industrial continues to be the best performing sector, having outperformed all others since 2016, with a rolling one-year return (as of 3Q20) of 10.1 %, followed by office at 2.8%, apartments at 2.3%, and retail at -6.3%. However, apartments have significantly outperformed office since the onset of the pandemic and year-end return figures should reflect this trend.

Geographically, the top performing region is the West, with one year rolling returns (as of 3Q20) of 3.3%. The South and East have had modest returns of 1.5%, while the Midwest continues to lag with returns of -1.1%. The top performing markets across most property types are Austin and Seattle, while secondary markets such as Nashville, Phoenix, Raleigh, and Denver have continued their 2–3-year rallies on the backdrop of 1.5–2.5% annual population growth. On the other side of the spectrum, previously thriving gateway markets with limited tech-based job growth such as Chicago and New York continue to struggle.

https://www.marquetteassociates.com/people/will-dupree/

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Write-Ups Write-DownsSource: NCREIF as of September 30, 2020

Exhibit 1: NPI Write-Ups vs. Write-Downs

At present, the National Council of Real Estate Investment Fiduciaries (“NCREIF”) projects average returns over the next four years to be in the 5.0–6.5% range. While income and capex are projected to remain steady, Net Operating Income (“NOI”) growth is projected to be significantly below the 4.6–5.6% range of the previous cycle.

ASSESSING CAPITAL FLOWSThrough September 30th, capital flows of the NFI-ODCE are -$817.3 million,2 indicative of an overall reduction to real estate investments on behalf of investors. However, redemption requests had been trending upward in recent years as late cycle observations compelled many investors to lock in gains; this trend accelerated significantly after COVID-19. At this point, the vast majority of NFI-ODCE funds now have entry/exit queue ratios less than 1.0, though a large share of these redemptions appear linked to rebalancing. In the prior cycle, redemption requests also increased significantly following the Global Financial Crisis, but a large number of these were canceled following declining market volatility and favorable government intervention. Nonetheless, this is an issue worth monitoring in coming months if redemptions are not recalled and funds are forced to liquidate properties in a low transaction volume market, as these dynamics will create headwinds for real estate returns.

PERFORMANCE DISPERSIONA TALE OF TWO SECTORSAt the onset of the pandemic, performance dispersion across sectors became more pronounced than at any other previous point in the cycle. In the second quarter, the percentage of NPI properties that were written up in value fell to 20%, while the number of properties written down in value jumped to 80%. This is the greatest disparity in value that markets have seen since the Global Financial Crisis.

Nothing tells the story of this dispersion better than the retail and the industrial sectors, as the two have been on polar opposite ends of the performance spectrum since 2016. E-commerce has been the primary catalyst of this trend. As the convenience benefits of e-commerce have boosted its popularity, demand for industrial warehouses that store and ship goods has surged and retail traffic — mainly within brick and mortar mall

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types — has dwindled. Since 2000, e-commerce has doubled its share of retail sales every five years, causing demand for industrial and retail properties to rise and fall, respectively.

This pattern had led investors to wonder if the retail sector of real estate is dead. Our answer to this question is no, but continued contraction is inevitable. A recent study by the International Council of Shopping Centers found that automotive and food/beverage categories have the lowest level of e-commerce penetration, while over 20% of apparel sales today are made online. Accordingly, grocery-anchored retailers have held up well during the pandemic, as these retailers have successfully integrated e-commerce platforms such as Instacart and curbside pickup into their business models in ways that do not detract from profitability.

But the high costs of implementation and other factors have prevented many brick and mortar retailers from successfully integrating e-commerce platforms in ways that support mall properties. Today e-commerce penetration is now forecasted to rise to 25% by 2023.3 Once a convenience, buying online became a necessity during the pandemic, and the preferences of many consumers are likely forever changed. Therefore, retail allocations that feature a larger weighting to grocery-anchored retail properties are poised to outperform more traditional allocations to malls and other stores which have seen sales decline as a result of growing e-commerce.

THE FUTURE OF OFFICE REMAINS UNCLEARThe challenges for the office sector are more ambiguous. Like retail, office has also been challenged by its own technology disruption, the increased number of professionals working from home (“WFH”). Since 2010, the percentage of office employees working from home has gradually increased (Exhibit 3); the pandemic has forced the vast majority of white-collar employees to conduct a full-time WFH experiment.

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Exhibit 2: The Inverse Relationship Between Retail and Industrial Demand

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E-Commerce Work-From-HomeSources: Census Bureau, DWS

Exhibit 3: E-commerce and Working from Home Surge in Popularity

Since the first quarter of 2020, leasing activity has been suppressed and transaction activity has been non-existent, as tenants patiently contemplate whether to eventually renew leases or permanently embrace WFH and reduce their office footprints altogether. YTD the values have declined by 2.16%. However, total returns remain positive at 1.1% on the backdrop of 90+% rent collection and longer lease terms. Lease rollover percentage, a primary driver of value and future demand, will be a key data point in coming quarters. In 2021 we expect landlords to pursue lease renewals more aggressively in order to protect property values, but negotiation power has thus shifted from landlords to tenants.

We believe the rumors of a massive office exodus have been exaggerated, but a smaller yet significant percentage of tenants may reduce office footprints. While WFH has introduced its own set of advantages, such as no commute and more time with family, it has also introduced new challenges including burnout, communication barriers, and declines in mentoring, collaboration, and creative thinking.4 In a recent survey of 317 companies, 95% said they plan to bring over 50% of employees back to the office eventually, however, 25% planned to shift ~20% of on-site employees to permanent WFH positions, and 13% claimed to have already cut reductions in real estate expenses.5

Moving forward, we expect demand for the sector to modestly contract, however, gateway markets are expected to see sharper near-term declines. Factors such as the difficulty of implementing social distancing on public transit, larger suburban workforces, and increasing corporate tax burdens imply that gateway tenants are more inclined to reduce their office footprints. Markets that lack significant tech employers — such as New York and Chicago — will be the most challenged. Suburban and sunbelt offices will also experience some vacancies but are likely to see more favorable cap rates in the near future, per accelerating population growth and millennial migration. Additionally, properties in all markets should see some tailwinds from the new need for de-densification — meaning an increased need for appropriate space between employees — but will also see future NOI pressure from tenant improvements associated with improved ventilation and higher sanitation standards.

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ASSESSING RELATIVE VALUEDespite the multitude of headwinds, relative value is apparent. The spread between core real estate cap rates for major property sectors and the 10-year Treasury yield has significantly widened to +392 bps, while the spread vs BAA corporate bonds and BB High Yield bonds has widened to +116 bps and +20 bps, respectively (Exhibit 4). In a market of increasing yield scarcity, core real estate offers some of the most attractive income distributions.

Historically, large cap rate spreads have preceded periods of strong real estate returns. However, if the trends of performance dispersion continue, more attractive valuations are more likely to be observed by property types that are in more favorable points of their respective market cycles.

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Sources: Bloomberg, NCREIF, Clarion Partners, DWS, Blackrock

Exhibit 4: Current Cap Rate Spreads Over Treasuries and Corporates Well Above Prior Peaks

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OPPORTUNITIES IN CORE REAL ESTATEAlternative Sectors Continue to Grow and Exhibit More Core-Like CharacteristicsWhile a significant share of core real estate assets is in a period of price discovery, esoteric property types such as data centers, cold storage, medical office, and self-storage are gaining popularity. Towards the end of the last cycle, ODCE managers began modestly increasing exposure to these “other” or alternative property sectors, as these assets began to exhibit not only diversification benefits, but also core asset characteristics. Since 3Q18, alternative sector exposure has increased from 3.3% to 4.4% of the index (Exhibit 5). Prior to the pandemic, many of these property types were experiencing tailwinds that have since accelerated.

Self-storage absorption increased in 2020 on the backdrop of many employees temporarily abandoning gateway market apartments and living at home until the end of the pandemic. Demand for medical office and life sciences properties had been increasing in recent years, per the aging population coupled with increasing R&D spending and technological innovations. The pandemic-driven demand for self-storage implies that it may be approaching a cyclical peak, while the demand for life sciences and medical office properties was strengthened by the pandemic and should continue to grow.

Demand for data centers and cold storage also increased in 2020, however, future demand for these properties is less clear. Demand for data centers has accelerated significantly with millions of white-collar employees working remotely. While most employees are expected to return to the office, the increasing but to be determined number of future remote workers should create long term structural growth. Demand for cold storage also accelerated significantly per health concerns associated with in-person shopping. While many will return to in-person shopping post pandemic, others have fully embraced the convenience of online grocery shopping, creating enough structural change for future growth.

As traditional sectors continue to contract, we expect alternative sectors to gradually become a larger part of the core real estate universe.

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Apartment Industrial Office Retail Hotel Self-Storage OtherSources: NCREIF, Clarion Partners as of September 30, 2020

Exhibit 5: The Growth of Alternative Property Sectors

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OPPORTUNITIES IN VALUE ADD AND OPPORTUNISTIC REAL ESTATEA Magic Bullet or a Mirage?Because chaos creates opportunity, the temporary demand shocks of COVID-19 have likely created investment opportunities for value add and opportunistic real estate portfolios. Many of these currently depressed property types could see major positive demand shocks and thus appreciation in value after successful vaccine distribution and society returns to levels of normalcy. However, we must be prudent in assessing the current opportunity set. Because the pandemic has created and accelerated several behavioral shifts — some of which are likely permanent — it is highly unlikely that all property types will return to pre-pandemic demand levels.

We are observing value add opportunities originating from the combination of pandemic-driven occupancy declines and credit stress. Senior living, student, and luxury housing opportunities offer much potential, and we are cautiously optimistic on post pandemic return projections. Furthermore, with the credit curve likely to steepen, prudent underwriting is imperative.

We are also seeing attractive opportunities for opportunistic strategies. Sharp declines in valuations and the second wave of COVID-19 may create meaningful liquidation scenarios and recapitalization opportunities in properties most dependent on foot traffic. However, it is imperative to temper expectations and not expect vaccine implementation to have a magic bullet effect. While leisure travel properties are likely to see immediate spikes in demand, per vaccine fatigue and increased American savings, post pandemic corporate cost savings strategies will likely limit business travel from reaching previous levels.

CONCLUSIONYears from now when we reflect on 2020, we may see it as the year that permanently impacted real estate markets for years to come. However, the medium to long term outlook for the asset class is not all doom and gloom. While much of real estate sits in price discovery, the combination of lower borrowing costs, yield scarcity, and attractive cap rate spreads imply that markets could see attractive returns in the medium to long term. However, because sector dispersion is likely to continue, property types at more favorable points in the cycle are more likely to be accretive to investment portfolios than those at less attractive entry points. Moving into 2021, we believe real estate should continue to play an important role in portfolios. However, we are likely to continue seeing an environment of winners and losers across both property types and asset managers. Prudence in both property selection by managers and manager selection by fiduciaries is more imperative now than it has been in many years to ensure a successful real estate investment portfolio.

NOTES1 2020 annual returns have not been released as of writing date2 NCREIF Fund Index – ODCE Quarterly Detailed Report, Q3 20203 Prologis4 Harvard Business School, April 20205 Gartner, Inc. (3 Apr 2020).“Gartner CFO Survey Reveals 74% Intend to Shift Some Employees to Remote Work Permanently.”

https://www.gartner.com/en/newsroom/press-releases/2020-04-03-gartner-cfo-surey-reveals-74-percent-of-organizations-to-shift-some-employees-to-remote-work-permanently2

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InfrastructureAN EVOLVING OPPORTUNITY SET, BUT AN ESSENTIAL ALLOCATION

2021 Market Preview

Will DuPreeSenior Research Analyst, Real Assets

As economic activity significantly plummeted in 2020 due to the impact of the pandemic, so too did capital flows and deal activity for private infrastructure assets. Over the course of the pandemic, private infrastructure fundraising dropped from $45 billion to $15 billion from Q4 2019 to Q2 2020, a significant decrease versus historical trends.1 As we gained more clarity on the true impact of COVID-19, fundraising rebounded by 56% in Q3 (Exhibit 1). However, positive fund growth was only achieved by 17 of 28 (60%) global listed infrastructure funds.

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2015 2016 2017 2018 2019 2020

Date of Final CloseNo. of Funds Closed (L) Aggregate Capital Raised ($B) (R)

Source: Preqin

Exhibit 1: Global Quarterly Listed Infrastructure Fundraising, 1Q15–3Q20

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20% 24%12% 12% 12% 10%

18%24%

18% 12%

26%

2%

14%10%

24% 30%

18%

14%

18%21% 25% 20% 21%

38%

16%14% 16%

16% 11%24%

4%7% 4% 8%

5% 10%8%

2% 2% 7% 2%

0%

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2015 2016 2017 2018 2019 Q3 2020

Pro

po

rtio

n o

f Fu

nds

Clo

sed

Date of Final Close6 Months or Less 7-12 Months 13-18 Months 19-24 Months25-30 Months 31-36 Months More than 36 Months

Source: Preqin Pro

Exhibit 2: Time Spent in Market by Unlisted Infrastructure Funds Closed, 2015 – Q3 2020

Furthermore, unlisted funds are also now spending more time in the market prior to closing. In 2020, the proportion of funds spending more than 18 months in the market increased significantly, from 44% in 2019 to 74% (Exhibit 2) in 2020.

Collectively, this data supports the claim that capital flows and deal closures slowed as a result of the pandemic. Yet, given the growing prevalence of infrastructure allocations in portfolios coupled with low rates and easily available credit, we expect this trend to reverse as the economy reopens in 2021, which should result in a wider opportunity set for investors.

THE IMPACT OF COVID-19 ON PRIVATE INFRASTRUCTURE RETURNSSimilar to other private markets, the full impact of COVID-19 on private infrastructure investments is not yet known at the time of writing due to the inherent delays in reporting performance of privately held assets. However, Exhibit 3 on the following page indicates that based on rolling one-year returns, the impact has not been catastrophic as returns through the first three quarters of 2020 were all above 5%. Admittedly, the rolling nature of quarterly returns naturally smooths the results and volatility of private assets tends to be understated since they are not valued on a daily basis, but nonetheless, the good news far outweighed the bad for investors during the first nine months of 2020. Of course, not all of 2020 has been digested with the returns shown below, and given the dip in public infrastructure indices during the year, there are sure to be some hiccups with privately-held investments, but the asset class appears to have weathered the crisis relatively well.

18

-5%

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25%M

ar-0

9Ju

n-09

Sep

-09

Dec

-09

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-14

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ar-1

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n-15

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-16

Jun-

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n-17

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Jun-

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ec-1

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ar-1

9Ju

n-19

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Dec

-19

Mar

-20

Jun-

20Se

p-2

0

Capital Appreciation Income

Source: MSCI. Infrastructure returns represented by the “low risk” category of the MSCI Global Quarterly Infrastructure Asset Index. Data show rolling 1-year returns from income and capital appreciation. The chart shows the full index history, beginning in 1Q 2009.

Exhibit 3: Rolling 4 Quarter Returns (Income + Capital Appreciation)

CURRENT DEAL ACTIVITY PROVIDES INSIGHT INTO THE FUTURE OF THE INFRASTRUCTURE MARKETFrom Q1 to Q2, the sector saw a tremendous drop in deal activity, as the number of deals completed declined by nearly 36% (Exhibit 4). However, deal activity is now showing renewed vitality as Q2 to Q3 data showed a +22% increase. While this is still below any quarter-over-quarter period in the last five years, we are indeed seeing the signs that deal activity is regaining momentum. However, whether each sector will return to pre-COVID levels of deal activity is a major question mark.

Looking at deal flow by sector, transport and conventional energy have been significantly impacted by COVID-19, as they saw quarterly deal count decline by 45% and 44%, respectively. It is likely that this is in part a reflection of the short-term contractions in demand for these services and the two sectors are likely to see subsequent increases in activity as demand returns over the course of 2021 and beyond. However, if many pandemic driven behaviors become permanent — such as cost cuts on travel — demand for these industries and deal flow are unlikely to return to their previous highs.

0

200

400

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1,200

Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3

2015 2016 2017 2018 2019 2020

No

. of

Dea

ls

Renewable Energy Conventional Energy Transport Utilities Telecoms Social OtherSource: Preqin Pro

Exhibit 4: Deal activity falls in 2020

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2021 INVESTMENT OPPORTUNITIESThe digitalization and electrification of many aspects of life will continue to play a key role in global infrastructure. So too will the renewable energy movement, which continues to grow behind the sharp cost declines of wind and solar, increased government support, and corporations committing to 100% renewable energy by 2050. These emerging sectors are poised to threaten the traditional methods in which infrastructure is utilized and as these assets gain further momentum, more investors are likely to gravitate towards them.

Renewable energy should see additional momentum in coming years following the Democratic Party gaining control of the White House and Congress as a result of the November elections and Georgia Senate runoff earlier this month. Historically, political change has had little impact on private infrastructure, however, we see these events as meaningful since many proposed policy changes are different from the status quo. Biden’s new climate plan and the House Democrats’ proposed Climate Crisis Action Plan includes a $2.0 trillion investment in climate initiatives over the next four years, a $400 billion investment in clean energy technology, and a push towards a carbon-neutral power sector by 2035 via clean energy tax credits. We are also likely to see increased regulation on the construction of new midstream energy facilities and acceleration of decarbonization in the transportation sector in the near future. Moving forward, infrastructure investors should anticipate higher demand for renewable energy assets and increased pressure on traditional energy and transportation assets.

Additionally, we expect to see a significant increase in the number of public-private partnerships (PPPs) in which capital is provided to public institutions over long time periods (20–30 years) for the construction and/or improvement of infrastructure assets. PPP activity had been increasing in prior years on the backdrop of aggressive infrastructure projects and fiscally challenged municipal balance sheets. Now as the fiscal liabilities from COVID-19 support packages increase, the reality becomes clearer that private capital is the essential vehicle needed for governments to meet ambitious infrastructure targets.

TELECOMMUNICATIONS AND 5GGrowth in data and internet usage has increased rapidly over the past decade, as connectivity and data consumption have become essential staples of our professional and personal lives. It is no secret to most infrastructure investors that the consistent increase in internet and data usage has been positively correlated with the continuous increase in telecommunications deals over the past decade. However, what COVID-19 did awaken was the defensive properties of the asset class. While private capital data is still forthcoming, the performance of listed infrastructure indices shows that telecommunications have unquestionably been the most resilient sector of 2020 (Exhibit 5), delivering positive returns of 6.4%, while all other sectors saw slightly positive or significantly negative returns.

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Sources: Bloomberg, JPMorgan

Exhibit 5: The Impact of COVID19 on Listed Infrastructure Assets

MSCI World 15.9%

Global Infra -7.0%

Utilities 1.6%

Toll Roads -6.0%

Communications 6.4%

Elec. Transmission & Distr. Infra -2.2%

Oil and Gas Storage & Transp. Infra -16.4%

Ports -14.2%

MLPs -28.7%

Airports -12.2%

$0.25

$0.50

$0.75

$1.00

$1.25

Val

ue o

f $1

Inve

sted

Jan

. 1, 2

020

Historically, telecommunications infrastructure assets have been considered non-core assets. This is due to various factors, mainly the limited number of brownfield assets, or existing assets, and the significant number of new assets under development, also known as greenfield assets. However, as investors awaken to the defensive properties of these assets, they are likely to draw increasing amounts of capital. Growing demand for data centers, fiber wireline, and 5G wireless networks should continue to increase the number of telecommunications deals over the next decade. As more capital comes to market, more greenfield and rehabilitation assets will eventually become established brownfield assets, with more core like characteristics. And as this happens over the next decade, core managers are more likely to use their increasing incoming capital flows to acquire these assets, which will enhance their portfolio’s risk-adjusted return profiles.

CONCLUSIONWhile global infrastructure has not been fully immune from the impact of COVID-19, it remains one of the most attractive asset classes across alternatives. Despite the market downturn, there are still trillions of dollars needed for infrastructure assets globally. The combination of this, yield scarcity, growing long term inflation concerns, low borrowing costs, and attractive risk premia will continue to drive demand for the asset class. While the trends discussed in previous sections may re-shape the composition of the asset class, infrastructure is expected to grow in market size and investor allocations in the coming years.

NOTE1 Preqin

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Private EquityBOTH QUALITY AND GROWTH SHINE BRIGHTLY IN 2020

2021 Market Preview

Derek Schmidt, CFA, CAIADirector of Private Equity

The private equity market performed mostly as expected through the economic volatility of 2020. Similar to previous market pullbacks, the private equity market experienced a more limited pullback as compared to public markets, troughing at nearly half of the public equity pullback with values rebounding quickly. Private equity managers experienced a near shutdown in transaction volume in March–May and instead focused on providing valuable operating expertise and capital to their existing businesses to help navigate the many challenges provided by the COVID-19 crisis. The fundraising environment was difficult but proven managers were able to quickly raise capital from their established investor bases as investor demand generally remained strong. Through June 30th, 2020, global private equity performance was up 0.5% YTD1 with U.S. private equity performance up 1.7% YTD,2 ex-U.S. private equity performance down 1.4%,3 and U.S. venture capital performance up 6.2% YTD.4 Venture Capital was the strongest performing area of the market as many technology trends were accelerated in 2020 with a large percentage of the population working from home and quarantining, which pulled forward the adoption of many emerging technologies and supported the growth and valuations for venture capital-backed businesses. Within private equity, this was a year when quality really mattered, both at the underlying business model within investments as well as the experience level and resources provided to businesses by managers, which is likely to widen the performance dispersion generated in the 2017–2019 vintages.

The private equity market is likely to experience little direct impact following the Blue Wave result of the 2020 elections. While Democrats have now gained control in the White House as well as the Senate, the most likely change to be discussed is the possibility of changing the tax rate on carried interest. This has been a long-standing consideration within Washington D.C. and could gain traction as taxes are

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With a vaccine roll-out underway and the assumption that working conditions return to normal at some point in 2021, the private equity industry is likely to see fundraising activity re-accelerate and broaden across an increasing number of managers and strategies. Fundraising has already improved significantly during the second half of 2020 as investors and private equity managers learned to interact virtually, but many ongoing fundraises have been extended and less established managers are anxious to launch their fundraising efforts in 2021.

$58 $67 $102 $158 $176 $153 $223 $248 $218 $320 $204

143175

200

292

365 363 378

438388 374

235

0

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$0

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2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

# o

f C

lose

d F

und

s

Cap

ital

Rai

sed

($B

)

Capital Raised ($B) # of Closed FundsSource: Pitchbook as of December 31, 2020

Exhibit 1: Fewer managers raised less capital in 2020

likely to rise with the government looking for ways to pay for the stimulus provided during the COVID crisis. However, private equity has become a significant catalyst for small business growth and job creation within the private markets and there may continue to be a reluctance to modify the current model at a time when smaller private businesses need assistance.

Private equity remains an increasingly essential component of the U.S. economy, as the number of private equity-owned businesses continues to grow, providing capital and expertise to businesses that strive to grow faster and become more efficient. While private equity further matures as an asset class, an increasing number of investors and managers are attracted to opportunities within the private markets. These investment interests are additionally supported by the sustained long-term outperformance over public markets and the current low interest rate environment.

Investor demand for private equity will remain strong in 2021 with fundraising likely to accelerate with more managers raising capitalThe private equity industry experienced a slowdown in fundraising activity in 2020 due to market volatility and an increasingly complicated fundraising environment. Managers were unable to meet with investors as a result of travel restrictions and many investors working virtually throughout 2020. Nonetheless, U.S. private equity managers were able to raise $204 billion in 2020,5 but this was down 36% from 2019, with significantly fewer managers and less mega funds able to raise capital in a virtual environment. The virtual working environment provided limited opportunities for new introductions and the face-to-face meetings that many private equity investors require. Successful private equity managers with established investor relationships were favorably positioned to raise capital virtually in 2020.

23

Additionally, the denominator effect should only increase the global investor demand for private equity as a strong global rebound within equity markets has increased the annual commitment size for existing institutional investors to maintain their targeted allocations.

Private equity valuations to stay elevated in 2021Transaction multiples and business valuations remained elevated in 2020 despite the significant operational challenges faced by businesses across the private markets. Private market valuations have been pushed higher the last few years due to a combination of low interest rates, rising investor demand, and an evolving transaction mix as capital continues to shift to higher multiple transactions within larger businesses and higher growth businesses.

As the private equity industry continues to see more capital sourced by successful managers raising larger funds, this capital is being deployed into more mature and sizable businesses at higher valuations. The valuation spread between large and small transactions is almost certain to persist within private markets as a business’s valuation generally rises as the business expands and the associated risks diminish allowing for a larger amount of capital to be attracted to the more durable business. These sizable transactions are growing increasingly competitive and more likely to be valued based not on the business’s fundamentals but more closely aligned with the valuations of public market peers which have been rising more aggressively for the past decade.

8.7x9.9x

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Avg. Middle Market Russell 3000 EV

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Late-stage venture capital will remain the frothiest area of private markets in 2021 as public markets continue to reward growthThe trend of venture capital-backed businesses remaining private for longer is likely to persist as private capital remains available at a scale never before experienced within the venture capital space. The late-stage venture capital market didn’t miss a beat in 2020 as technology adoption was pulled forward significantly following the COVID-19 crisis, providing a growth acceleration for many top tier businesses. The average 2020 late-stage pre-money valuation experienced a 64% increase over 2019 valuations expanding to an average valuation of $564 million.7 We believe valuations could certainly expand further in 2021 as the strong emerging business tailwinds that allowed these businesses to thrive in 2020 are likely to remain and these businesses now are being viewed by investors as more durable business models following their success coming out of a severe market slowdown.

$564

$75

$270

$25$0

$100

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$600

2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

Late

-Sta

ge

Pre

-Mo

ney

Bus

ines

s V

alua

tio

n ($

M)

Average Median 75th Percentile 25th Percentile

Source: Pitchbook as of December 31, 2020

Exhibit 3: Robust investor demand elevates late-stage venture valuations

Late-stage venture capital investing has been one of the fastest growing and developing areas of the private markets. The late-stage venture market in 2020 represented 69% of U.S. venture capital deal value but only 22% of capital rounds raised.8 Competition for the top tier businesses continues to increase as more capital looks to be deployed by an increasing number of dedicated late-stage venture funds and non-traditional venture investors such as public equity managers and hedge funds who increasingly dip into private markets for growth opportunities.

Driving this robust interest in the most desirable large venture-backed businesses is the recent IPO exit success of Uber, Lyft, Pinterest, Zoom, Chewy, Crowdstrike, Snowflake, Palantir, Airbnb, and DoorDash. Public market investors have continued to reward these highly valued growth companies with even higher valuations. There were over 450 IPOs in 2020,9 up 95% from 2019, and these successful venture exits are likely to continue to incentivize investors to seek out late-stage opportunities as long as the valuations remain below public market valuations. The IPO opportunity for 2021 is already poised to get off to a strong start with anticipated high-profile IPOs from Stripe, Coinbase, Robinhood, and Instacart.

25

$1 $2 $2 $8 $9 $11

$70

3 9 7 712 14 10

2837

51

228

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2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

Tota

l Num

ber

of

SPA

C IP

Os

Cap

ital

Rai

sed

($B

)

Capital Raised ($B) Total Number of SPAC IPOs

Source: Pitchbook as of December 31, 2020

Exhibit 4: 2020 was the year of the SPAC

The venture capital exit environment will experience increased participation by SPACs in 2021Despite historically being thought of as a niche investment vehicle, SPACs became one of the hottest topics of 2020 within the financial community. Investors contributed $70 billion to 228 special-purpose acquisition companies (SPACs) that were launched in 2020, raising 529% more than in 2019. SPACs flourished in 2020 as significant market volatility made it more difficult for a private business to reach the public market through an IPO or direct listing. Well known investors and operators quickly became tied to these vehicles as a means of enticing investor capital and attracting targeted businesses.

SPACs are vehicles that raise money through an IPO process and then place the capital raised into a trust while the sponsor searches for a business to acquire. Once the manager of a SPAC agrees to a transaction price with a targeted company, the company completes a reverse merger with the SPAC to become a listed stock. A private business going public via SPAC has a few advantages over a traditional IPO. SPACs can bring a private business public on a faster timeline with more certainty around a business’s valuation. Furthermore, the listing of a SPAC requires a much lower level of diligence than a similarly sized IPO since a prospectus, financial statements, and roadshow do not need to be prepared by an investment bank for public investors.

SPACs generally have a 24-month window to deploy their capital raised, which we believe will accelerate exit activity primarily across the late-stage venture market in 2021 and 2022. The added exit option of a SPAC is attractive to a more complex or nuanced business that requires more time before a broader pool of investors would appreciate the business model. The beauty of a SPAC is that only one investor, the SPAC manager, needs to understand and believe in the business at the agreed upon price. We believe these purchase prices provided by SPAC managers are likely to be priced very competitively, as there is an incentive to deploy the capital raised, relative to the most likely alternative for the business of raising additional late-stage venture capital or being acquired by a buyout fund. Looking at the recent history surrounding SPACs and their ability to identify and enter into a reverse merger, 59% of the SPACs raised in 2018–2019 have already completed a transaction.10 This would imply nearly 120 companies could look to exit through SPACs and with the quality of investment managers and business operators tied to the recently launched SPACs in the market, it would not surprise us if this 2020 vintage of SPACs found more success bringing businesses to the public market.

26

Private equity allocations will rise in 2021 with broader utilization by institutional investors We believe investor allocations to private equity will rise in 2021 as investors continue to build and expand their investment exposure within alternatives, growth assets, and private markets. The low interest rate environment should enable investors to accept more illiquidity in exchange for accessing potentially higher return opportunities. We continue to like the private equity market as a growing asset class for institutional investors who can handle portfolio illiquidity. While it takes a long time to build up private equity exposure within a disciplined private equity program, we encourage investors to think about their long-term allocations (10+ years) and to make the consistent annual allocations required to achieve that target.

NOTES1 Based on performance of the Cambridge Associates LLC U.S. & Ex-U.S. Private Equity Index through June 30, 20202 Based on performance of the Cambridge Associates LLC U.S. Private Equity Index through June 30, 20203 Based on performance of the Cambridge Associates LLC Ex-U.S. Private Equity Index through June 30, 20204 Based on performance of the Cambridge Associates LLC U.S. Venture Capital Index through June 30, 20205 Data from Pitchbook as of December 31, 2020 6 Data from Bloomberg and Robert W. Baird Global M&A Monthly Report as of November 30, 2020 7 Data from Pitchbook as of December 31, 2020 8 Data from Pitchbook’s U.S. VC Valuations Report as Q3 2020 9 Data from StockAnalysis.com 2020 IPOs List as of December 31, 2020 10 Data from Pitchbook 2021 U.S. Venture Capital Outlook

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Private CreditTWO STEPS FORWARD, ONE STEP BACK

2021 Market Preview

Bretty Graffy, CAIAResearch Analyst

Our 2020 market preview elaborated on the growth of the private credit asset class since the Global Financial Crisis and its emergence as a top three alternative asset class by AUM. Over the past ten years, private credit growth has been fueled by declining interest rates and the longest bull market in history. 2020 marked the first extensive test of the resilience of the asset class. In the first quarter of 2020, private credit had its worst quarterly performance since the fourth quarter of 2008, falling 6.1%. However, private credit did not experience as significant a drop compared to the Credit Suisse Levered Loan Index (CSLLI) and the Barclays U.S. High Yield Index, which declined 13.9% and 12.6%, respectively. Alternatively, in Q2 2020, private credit dropped 0.15% while the CSLLI and Barclays U.S. High Yield Index bounced back, gaining 9.7% and 10.1% for the quarter. In the coming months as Q3 and Q4 2020 data become available, private credit investors will be anxious to see how their allocations performed compared to other asset classes.

For private credit, 2020 began the same way 2019 ended, with robust deal activity in a favorable market environment. The market environment quickly changed as the markets processed the seriousness of the COVID pandemic and its potential impact on the global economy. As cities and states rolled out restrictions, companies were greatly affected as many were forced to shut down and operate their businesses in a near-zero revenue environment. Industries that rely on foot traffic, such as restaurants, retail, travel, and leisure, were most impacted by regulations and the need for social distancing. During this time, balance sheet liquidity became the sole focus of business owners as they sought to keep their enterprises open until a time when operations could get back to normal. Private equity-owned companies drew down on their revolvers to help fortify their balance sheets during this uncertain time. Additionally, private equity managers injected their portfolio companies with additional equity to help support their businesses when needed. New deal activity was forced to a halt as buyers and sellers were uncertain of how to price risk and fully understand the economic impacts of COVID.

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-20%

-15%

-10%

-5%

0%

5%

10%

15%

Pri

vate

Cre

dit

Qua

rter

ly R

etur

n

Source: Pitchbook

Exhibit 1: Private credit rebounds in the second half of the year

Throughout the second and third quarters as restrictions loosened and companies adjusted their business models, companies began to pay back their revolvers as revenue increased and owners became more assured in their balance sheets. Likewise, M&A and capital markets activity began to increase as companies sought to take advantage of the low-rate environment by refinancing existing debt or issuing new debt. The most impacted industries have continued to struggle due to the pandemic’s duration and severity. Nonetheless, industries such as technology have experienced tailwinds as consumer behaviors and trends have shifted in their favor. Overall, new deal activity has continued to grow even as much of the country is experiencing a second wave of the pandemic. Investors’ confidence is being driven by the emergence of two effective vaccines and the belief that 2021 will be better than 2020.

Source: Pitchbook; data as of June 30, 2020 (most recently available)

Exhibit 2: Private credit protected better in 1Q, trails in 2Q

Strategy2Q20

(%)1Q20

(%)1-Year

(%)3-Year

(%)5-Year

(%)10-Year

(%)15-Year

(%)20-Year

(%)

Private Credit -0.1 -6.2 1.0 5.3 4.8 7.9 7.8 8.4

S&P 500 20.5 -19.6 -7.0 5.0 6.5 10.5 7.6 4.8

Russell 3000 22.0 -20.9 -9.1 3.9 5.6 10.1 7.5 5.0

CS Leveraged Loan Index 9.7 -13.2 -2.2 2.1 2.9 4.3 -- --

Bloomberg Barclays US Corporate High Yield

10.2 -12.7 -6.9 0.8 2.8 5.6 6.3 6.5

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While private credit fundraising lagged compared to years past, total assets under management grew slightly to $786 billion. Similarly, dry powder rose to $293 billion, accounting for 37% of total assets under management.

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64 70 69

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152

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232215

237 223

181

82

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020Capital Raised ($B) Fund Count

Source: Pitchbook; 2020 data as of September 30, 2020

Exhibit 3: Fundraising slows in 2020 due to COVID

FUNDRAISING AND DRY POWDERDue to the onset of the COVID pandemic and the uncertain economic environment, through the third quarter private credit is on pace to have its lowest fundraising total since 2015, when the asset class brought in $98 billion in new capital. Furthermore, only 82 new private credit funds have been raised through Q3 2020, which would be the lowest figure since 2010, when only 90 new funds were raised. Direct lending strategies accounted for half of the total capital raised, while special situations strategies were the second largest, accounting for 20% of all capital raised in private credit.

$89

$169 $184$239

$285 $306$327

$384$425

$491$551

$655

$741 $769$786

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2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

Tota

l Cap

ital

($B

)

Total AUM Dry PowderSource: Pitchbook

Exhibit 4: AUM and dry powder increased in 2020

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DISTRESSED CYCLE?Many investors expected that the economic challenges brought on by the COVID pandemic would bring upon a distressed cycle ripe for investment, similar to the Great Financial Crisis. Furthermore, due to the duration of the longest bull run in market history, investors were driven to believe that the market was ripe for a pullback or recession. Over the past three years, over 80 distressed funds raised $92 billion in preparation for a market pullback and an opportunity to buy assets at depressed levels.

Unfortunately, distressed opportunities have not been as widespread as managers expected. In the leveraged loan and high yield bond markets, securities sold off sharply in March but bounced back quickly, not giving managers enough time to deploy the amount of capital they had hoped. Similarly, the Proskauer Private Credit Default Index showed defaults spiking to 8.1% in the second quarter but falling to 4.2% in the third quarter, the same level as Q1.2

DIRECT LENDING PRICING AND TERMS WILL BECOME MORE LENDER FRIENDLYCompetition for deals amongst direct lenders has coincided with the growth of the private credit asset class. As a result, pricing has decreased and documentation has become more borrower-friendly. Covenant lite loan credit agreements have become synonymous with syndicated and upper-middle market loans. Due to the challenges of COVID, some borrowers were forced to defer interest payments and in some cases, tripped covenants, which caused them to amend credit agreements or remunerate lenders. Additionally, many lenders were not able to make new loans during COVID as they were focused on the health of their existing portfolios. In 2020, median U.S. buyout multiples fell slightly to 13.8x,1 but equity contributions rose to 78%, and total debt to EBITDA decreased to 3.1x. Consequently, pricing improved as original issue discounts increased, LIBOR floors became the norm, and call protections expanded.

We expect that these trends will persist as there remain elevated risks around the COVID pandemic and the uncertainty of economic growth in the future. While interest rates fell in 2020, private credit loan rates have been supported by LIBOR floors, which we believe will benefit investors and be a hedge against potential rising rates. Lastly, lenders will use the lessons learned during the COVID pandemic to strengthen their credit agreements and protect investors against unforeseen downturns.

4.8x 4.4x 4.1x5.2x

5.9x5.0x

3.1x

57% 59%66%

55% 56%

66%

78%

0%

10%

20%

30%

40%

50%

60%

70%

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100%

0.0x

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12.0x

14.0x

16.0x

2014 2015 2016 2017 2018 2019 2020

Total Debt/EBITDA (x) Total Equity/EBITDA (x) Equity Contribution (%)

11.0x 10.7x

12.1x 11.6x

13.5x14.6x

13.8x

Source: Pitchbook

Exhibit 5: Pricing improves as multiple falls during 2020

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We expect this distressed cycle to look very different due to record-low interest rates, global accommodative central bank policy, and government intervention. Instead of a deep distressed cycle, we believe this cycle will be longer but not as steep and concentrated on specific industries like travel and leisure. Furthermore, with a large amount of capital chasing select opportunities, we prefer managers who focus on quality companies with challenged balance sheets and managers who have the institutional knowledge of investing across the capital structure and experience investing in distressed companies.

FUNDRAISING RECORD YEAR2017 marked a record fundraising year for private credit in total capital raised, and the number of

0%

1%

2%

3%

4%

5%

6%

7%

8%

$25m-$50m >$50m

Q1 2020 Q2 2020 Q3 2020Source: Proskauer

Exhibit 6: Default rates improve in third quarter

$25M–$50M >$50M

new funds brought to market. Since then, 2020 withstanding, fundraising has been steady, driven by strong investor demand. As investors encounter a new reality in a post COVID world that includes record low interest rates and high equity valuations, we believe that 2021 fundraising will eclipse the 2017 record year. Investor demand for yield has never been greater, and private credit has proven itself as an attractive alternative for investors. Additionally, the COVID pandemic period represents a valuable data point for investors to compare private credit managers’ relative performance. Investors can now compare performance, sourcing capabilities, underwriting discipline, and workout resources against a significant market downturn. We believe investor demand for private credit will boost fundraising activity for esoteric asset classes such as fund financing, consumer lending, and non-performing loans as clients seek diversification and yield-enhancing assets.

A LOOK TOWARDS 2021While 2020 brought along unforeseen investment challenges, investors are upbeat about prospects for 2021 and the hope that it won’t be as tumultuous as the previous year. We believe investor demand for alternatives, particularly private credit, will continue to grow as investors look for assets that improve overall portfolio diversification. It is the hope that we are past the worst of the COVID pandemic, and life will soon begin to return to normal. Until then, market uncertainty will remain, and private credit deal activity will persist below pre-COVID levels. As a result, private credit dry powder will likely grow as managers patiently wait for compelling investment opportunities. Furthermore, 2020 marked an important year for the maturity of an asset class that has grown significantly since the Global Financial Crisis.

We continue to like the private credit asset class for institutional investors looking to diversify their alternatives and fixed-income allocations. We believe that a private credit allocation is a valuable return enhancer and diversifier for a client’s portfolio and is poised to become more prevalent across investment portfolios.

NOTES1 EV/EBITDA2 Proskauer Releases Q3 Private Credit Default Index, 16 Oct 2020.

https://www.proskauer.com/release/proskauer-releases-q3-private-credit-default-index

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The sources of information used in this report are believed to be reliable. Marquette Associates, Inc. has not independently verified all of the information and its accuracy cannot be guaranteed. Opinions, estimates, projections and comments on financial market trends constitute our judgment and are subject to change without notice. References to specific securities are for illustrative purposes only and do not constitute recommendations. Past performance does not guarantee future results.

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About Marquette AssociatesMarquette Associates is an independent investment consulting firm that guides institutional investment programs with a focused client service approach and careful research. Marquette has served a single mission since 1986 – enable institutions to become more effective investment stewards. Marquette is a completely independent and 100% employee-owned consultancy founded with the sole purpose of advising institutions. For more information, please visit www.marquetteassociates.com.

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