ASIC turns up the heat on private markets

ASIC is setting its sights on the private markets sector, flagging it will pay particular attention to the surging popularity of opaque private debt investments.

The regulator lays out its concerns in discussion paper, Australia’s evolving capital markets: A discussion paper on the dynamics between public and private markets, putting forth a host of reasons why the sector may need its intervention.

ASIC defines private markets as “private capital funds, non-bank financial lending and investments made by institutional investors directly into asset classes such as private companies, infrastructure and debt”. It categorises private markets across four key areas: private equity, private credit, infrastructure, and property.

The staggering growth of private capital funds nearly tripled over the past decade, increasing from $57.1 billion in 2014 to $148.6 billion in March 2024, ASIC said.

Private equity and real estate accounted for the largest portions of Australia-focused private capital fund assets of $65.9 billion and $58.2 billion respectively.

The Reserve Bank of Australia (RBA) estimates that the private credit market is worth $40 billion. However, ASIC noted that estimates elsewhere range from $1.8 billion to $188 billion for this asset class. This is minute compared to the size of the global private credit sector, which is about US$2.1 trillion.

“Due to the small size of the private credit market in Australia, the RBA considers that direct risks to financial stability from this market appear low … Nonetheless, there may be implications for market integrity, investor outcomes and confident, informed participation in the financial system even at levels of activity that do not pose risks to financial stability,” ASIC said.

ASIC also warned that while the asset class doesn’t appear to be systemically important in Australia, “failures are on the horizon, and at current volumes it is untested by prior crises – regulators need information to consider the risks and plan responses.”

The fact that retail investors can easily gain access to private markets is a concern for ASIC. Some products ask for a buy-in that is as little as $2000.

Limited access, liquidity challenges, complexity, higher fees, information asymmetries, and adverse selection risks are on ASIC’s radar.

ASIC is also examining superannuation funds’ role in the private assets sector. APRA statistics show that superannuation funds allocate between 0% and 38% of their total assets – comprising a mix of cash, public assets, and private assets – to private assets.

Australia’s two largest super funds – AustralianSuper and Australian Retirement Trust – invested about 22% of their assets in private markets. About half of these private assets are international exposures.

“Both funds are most exposed to infrastructure assets. Many large superannuation funds have publicly indicated their intention to increase their exposure to private market assets,” the report read.

ASIC chair Joe Longo said: “Public and private markets support one another, and both are critical to our economy, so it’s important we approach this from both an opportunity and risk perspective. The critical point for ASIC is whether there is a need for interventions to address risk or adjustment to how regulation operates to take advantage of opportunities important for the attractiveness of our capital markets.”

Furthermore, Longo said “opacity, conflicts, valuation uncertainty, illiquidity and leverage in private markets are the key risks I am concerned for ASIC to focus on.”

“The critical point is understanding whether there is a need for intervention, whether it is for ASIC or another regulator to consider, or whether we leave the market and wholesale investors to their own devices,” he added.

Stakeholders have until April 28 to make a submission.

Commenting on the report, Challenger Investment Management head of investment strategy in fixed income Pete Robinson said ASIC was explicit in stating it will increase its focus on private credit – repeatedly referencing opacity, valuation uncertainty, conflicts, leverage and illiquidity as key risks.

“With respect to valuation they were clear that in their view that if public market valuations are declining then this should be reflected in some way in private market valuations, a view we share but many domestic managers do not,” Robinson said.

“Investors should be aware that this report won’t close the book on the governance questions surrounding private credit. The approaches taken by firms around treatment of upfront fees, management of conflicts of interest and valuation practices will continue to come under scrutiny both by regulators, media, and other investors in the fund.”

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