Institutional investor trends

Investors continued to navigate a complex landscape, shaped by a combination of macroeconomic pressures, shifting monetary, fiscal and trade policy—all of which contributed to heightened investor caution.

With heightened volatility and uncertainty, institutional investors continue to want to do more with fewer partners, with whom top-tier investment strategies are table stakes. There is a real need for packaging quality intellectual capital and raising service levels to meet institutions’ broad range of needs in a relevant, additive way during increasingly complex environments.

As we detailed in our 2025 Private Markets Outlook, institutional investors very clearly continue to prioritize ensuring they have the correct private markets allocations. Fundraising competition continues to be intense with most of the flows concentrated in the largest managers. Private credit and PE secondaries seem to be areas where institutions are most interested in putting money to work. However, liquidity management continues to be a top concern and a potential barrier to portfolio changes given the persistent distribution drought we have seen for the past three years.
 

Source: PitchBook Q1 2025 Quantitative Perspectives: US Market Insights. Data as of 9/30/2024.

As the exit environment remains challenged and liquidity is still relatively scarce, institutions have been focused on return of capital by increasingly emphasizing distributed to paid-in capital (DPI) when evaluating PE returns.

Source: PitchBook, Q3 2024 Benchmark Report, Data as of 6/30/2024.
 

As the competition for capital remains fierce, LPs have focused on rationalizing their GP rosters with the vast majority of investors' time focused on re-up decisions. There were many significant CIO changes in 2024— California State Teachers' Retirement System (CalSTRS), California Public Employees Retirement System (CalPERS), New Mexico State Investment Council and Florida State Board of Administration, to note some of the larger plans—which tended to precipitate meaningful secondary sales. We continue to see very favorable market conditions for secondaries given need for liquidity.

It appears that secondaries are becoming a structurally important part of private capital markets, with secondary market transaction volume surpassing $160 billion in 2024—the highest level on record. Of note, GP-led transactions represented roughly 40% of volume in the first half of 2024. We are seeing signs that this part of the secondary market is continuing to mature, as evidenced by robust transaction volume and complexity as well as better alignment of interests.

Source: Jefferies 2H2024 Global Secondary Market Review. Transaction pricing data is sourced from Preqin database and is self-reported and/or gathered from industry professionals including fund managers, investors and service providers. Data as of January 2025.
 

Similarly, co-investment is a huge theme across the largest public funds, given their need for the return characteristics of private equity but also their intense pressure to do so at a significantly lower cost. While they will still invest in funds, many will now do so only for attractive co-investment ratios. 

While there seems to be universal acceptance that the sector is "hot," many LPs continue to be wary of what they see crowding in private credit—particularly in the sponsor-backed, upper-end of the direct lending market. Consistent with overall private market trends, there is significant concentration in fundraising in mega-sized funds. In fact, mega funds have seen the highest share of flow in over 15 years.

Source: PitchBook, as of 12/31/2024.
 

The central components of institutional investor allocations have been largely built out through core and upper middle market direct lending with large GPs. Institutional allocators are increasingly looking at this part of their private credit allocation as beta exposure, commanding fees that are commensurate with that type of risk profile. We are now hearing of fees as low as 45 bps with no carry, which may be an extreme, as smaller managers compete on price with larger, more in-favor ones and this asset class becomes commoditized.

Now that these allocations are largely developed, LPs are looking to round out those allocations with other areas of the private credit market. Within direct lending, strategies that invest in the lower middle market are in demand, as are non-sponsor focused strategies and European exposures, all of which help to provide more diversified return profiles from their traditional direct lending allocations. Another area of the market that has garnered more attention has been infrastructure debt, due to its stable long-term cash flows, low correlations to traditional equity markets and potential for inflation protection.

Markets are starting to see some daylight at the end of the tunnel. With monetary policy appearing to take a more accommodative stance, CRE transaction volume has finally picked up, which is providing greater clarity on both valuations and when exit queues may begin to be cleared. Performance finally trended positive in the core space this year. The question of the office sector continues to dominate investors’ minds. We see growing interest but not much money in motion yet. A particular challenge for RE debt is “bucketing,” i.e., whether it belongs in the CRE allocation or private debt allocation. There is little consensus on this topic, but we continue to make the case that investors considering an RE allocation at all should evaluate debt over equity given the compelling risk-adjusted returns we believe are available.

Volatile  yields put pressure on traditional bond sectors, while strong demand for high-quality fixed income persisted amid continued economic uncertainty. Investment-grade credit spreads remained at or near their all-time tights, but early signs of growing dispersion between credit sectors suggest that active management will be crucial moving forward, particularly with spreads at current levels.

Investors are increasingly seeking credit diversification through other markets in search of higher yields and improved risk-adjusted returns in areas such as asset-backed securities and mortgage-backed securities. We have also seen a notable trend to outsource the decision making to the investment manager who can dynamically allocate across multiple credit sectors like high yield, emerging market debt and bank loans.

Activity in core/core plus continues to be the heaviest as investors take advantage of higher yields to meet total return objectives while lowering overall portfolio risk. With historically higher interest rates and market uncertainty, liquidity management also continues to be a key focus for many institutional investors. Strategies like short-term bonds and other cash management solutions help preserve flexibility to meet near-term funding requirements while navigating the uncertain economic landscape and keeping dry powder available to allocate as opportunities present themselves. 

Our team hopes this sharing of collective intelligence is both informative and helpful. As always, the Franklin Templeton US Institutional Team is here as a resource through these choppy markets. Thank you for reading.

Warm Regards,

Tom Meyers
Head of US Institutional
Franklin Templeton