The attraction of private markets

Investing in the private market has provided investors with an opportunity to diversify away from the public market. — Bloomberg

MOST investors are familiar with investing in the public markets, especially those related to equities, while some may have exposure or experience in investing in fixed-income products that are listed on exchanges or online platforms too.

Investors are also familiar with investing in other forms of asset classes, especially those related to trading in futures, commodities, or even currencies, while exchange-traded funds are another indirect way to have meaningful exposure to certain equity themes, asset classes or even cryptocurrencies.

Huge opportunity

In Malaysia, while the public market is well developed with the depth and breadth of the equity market as seen from the companies that are listed on Bursa Malaysia, the private market is a different ball game altogether.

Here, the type of investors that have a strong presence are mostly institutional funds, investment holding companies, private equity (PE) or venture capital (VC) funds, family offices as well as high-net-worth (HNW) individual investors.

Due to the size of assets under management or the availability of funds among HNWs, the world of investments has also opened up to this class of investors, enabling them to invest directly into the private market.

The private market here refers not only to equity positions in unlisted up-and-coming companies, but also to fixed-income products that are largely off the radar for individual investors.

Beyond equity and fixed income, private real estate and private infrastructure as well as investing in funds that invest in any form of other private asset classes are also seen as part of the private market.

Large pool

Listed companies are subjected to regulatory oversight, while unlisted companies merely fall under the Companies Act, 2016.

Of course, depending on the nature of business, private companies may also fall under different legislations.

Based on statistics from the Companies Commission of Malaysia, there were more than 1.5 million registered companies and 9.2 million registered businesses as at the end of March 2024 in the country.

However, the number of listed companies, based on the latest information from Bursa Malaysia, is at just 1,031.

Clearly, the number of unlisted companies in terms of percentage is a staggering 99.93% of total companies.

Granted, the majority or most of them are small, but they are significant in terms of numbers.

Last week, the Securities Commission (SC) launched a five-year roadmap to better position the capital market as an attractive and robust source of financing for micro, small and medium enterprises (MSMEs), including startups and mid-tier companies (MTCs).

Positive step

According to Finance Minister II, MSMEs and MTCs are the country’s engine of growth, with MSMEs contributing about 38.4% of Malaysia’s gross domestic product (GDP) and 48.2% of total employment in 2022.

There are about 8,500 MTCs, accounting for around 36% of gross domestic product and 16% of the workforce.

The SC, at the launch of the five-year roadmap, also laid out its plans to make the capital market an attractive choice for MSMEs and MTCs, build a more inclusive capital market as well as support their financing needs, which can generate economic growth and create more jobs.

According to the SC, fundraising by MSMEs and MTCs between 2017 and 2023 totalled just over RM25bil, of which approximately half was raised via the LEAP and ACE Market, respectively.

Some RM5.9bil was raised via VC and PE funds, while equity crowd funding and P2P Financing Platform raised some RM6.6bil.

The SC also identified gaps that need to be addressed, and in particular are those related to liquidity and exit issues, and difficulties in promoting private market deals and trade sales.

Without going into details, the five-year roadmap involves five guiding principles, nine strategies and 36 initiatives through three approaches. The key initiatives that are perhaps noteworthy to mention are:

> Listing by introduction (or direct listing),

> Providing guarantee for capital market instruments,

> Facilitating the issuance of bonds/sukuk and flexible fundraising instruments by MSMEs/MTCs,

> The introduction of a trade sale board; and

> Encouraging experimentation to enable tokenisation and innovative capital market solutions.

Towards this end, based on data presented in the roadmap, Malaysia has the potential of between 15,000 and 28,000 MSMEs and MTCs that have the potential to seek financing via the capital market.

Even taking the low end of the range, the numbers are more than 10 times that of the current Bursa Malaysia-listed companies.

The clear target envisaged by the SC is to have some RM40bil raised via the capital market from just RM6.3bil in 2023! A tall order but not impossible.

Risk and rewards

Traditionally, investors who are exposed to private markets demand higher returns as private markets are less transparent when it comes to price discovery, as well as due to the illiquid nature of the market itself and the time factor.

Most private equity or debt instruments are bought for a longer time horizon and hence there is higher risk exposure to these asset classes.

Hence, it is not surprising that private equity investors demand returns that are at least in the mid-teens to as high as 20%, while the private debt market too sees a pick-up in yield by between 150 and 300 basis points when compared with publicly traded fixed-income product.

For example, a single “A3/A-” five-year paper may trade at a yield-to-maturity of 5.8%, but a private fixed-income paper of equivalent rating and tenure may even trade between 7.5% and 8.5%.

Here, the private credit paper may not even be rated as the investors are more yield-hungry and are satisfied as long as the papers are well covered in terms of creditor protection and security.

As private market assets are not listed on an exchange, it also gives investors some comfort of not needing to mark-to-market the investments but this is only likely valid for individuals and not institutional investors, who will make efforts to “value” these investments periodically and as and when required.

Diversification

Given the absence of gyration in market price and less volatility as well as higher return expectations, investing in the private market has provided investors an opportunity to diversify away from the public market.

The trend is rather obvious when it comes to investing in the private credit market as well as infrastructure as these are backed by steady income flow in the form of coupon payment or dividends.

As for private equity investment opportunities, there are many stages that investors can explore in this space, ranging from angel investors to startups, growth companies, and the pre-IPO stage.

Every stage of private equity investments gives investors different exposure to risk and rewards, but of course for successful investments from the very beginning it is either a 10-20-times return or zero as some startups do go belly-up.

Widening the reach

Private markets typically have the potential to give investors outsized or higher returns.

For a long time, the private market space has been the domain of institutional investors, family offices, and HNW individual investors.

Today this is changing with platforms such as the initial exchange offering (IEO) in Malaysia which enables investors to invest in these asset classes in smaller bite sizes through tokenisation.

With technology, regulators too are changing the narrative and bringing democratisation of access to companies for fundraising efficiently, and for ordinary investors, an opportunity to invest affordably and an exposure to a higher yielding asset class.

For these investors, having access to a broader asset class provides them with better opportunities and dismisses the myth that private markets are the domain of the rich.

Way forward

The SC’s five-year roadmap is key in further developing the private market as there are many opportunities for capital market players to gain from the increasing demand for capital by MSME/MTC.

At the same time, this has also opened up the window for industry players to be more innovative not only in terms of capital market products, but also platforms that could host some of these products to be traded in the market.

Judging by the huge market out there for unlisted companies, the Malaysian capital market is in for strong growth over the next five years.

Pankaj C. Kumar is a long-time investment analyst. The views expressed here are the writer’s own.