Private banks are urging investors to seize the artificial intelligence opportunity through private markets, with wealthy families leading the charge.
While a strong investment case for artificial intelligence (AI) in public markets remains intact, according to UBS, there are also “interesting” diversification opportunities through private markets due to broadening AI adoption and spending trends.
“In private markets, over the next five to 10 years, the opportunity for private equity (PE) will increase as start-ups financed through venture capital (VC) mature,” says Laeticia Friedemann, alternative investment strategist at UBS Global Wealth Management.
Companies will also “consolidate” as the market adopts industry standards. AI will become an integral part of sourcing, due diligence and value creation for private market firms – similar to how ESG became an integral part of the process more than a decade ago, she adds.
VC deals in AI and machine learning have averaged 2,100 per quarter over the last 24 months, according to the PitchBook investment database. This represents 19 per cent of global VC deal activity. UBS data also shows today’s opportunities are three times greater than a decade ago.
The US undoubtedly leads the way on this front. In 2023, investors allocated one in three VC dollars in North America to AI and machine learning, compared to less than one in five in Europe and one in 10 in Asia. This is primarily due to the US’s wide-ranging talent pool, a high concentration of start-ups and research institutions, plus robust VC funding.
“In the US, the top six industries leading AI adoption are IT, professional services, educational services, finance and insurance, real estate, and healthcare,” says Ms Friedemann. However, she cautions against over-enthusiasm in sectors focused solely on “mundane” generative AI applications, such as chatbots.
Private market demand
According to Barclays Private Bank, growing demand for private markets is being fuelled by private wealth investors increasingly embracing institutional strategies to boost returns and diversify portfolios.
PE funds, in particular, have defied broader economic headwinds, securing a 50.5 per cent share of private capital fundraising so far this year, according to Barclays’ Private Markets report.
As of 2022, assets managed by these funds stood at $14.7tn, with projections suggesting this could surge to $19.6tn by 2028. In a further sign of their “resilience”, PE funds have raised nearly $2tn in fresh capital since the start of 2023, highlighting their enduring appeal to investors in a volatile financial landscape.
The report highlights a growing trend among family offices to expand and diversify private market allocations, driven by pursuit of higher returns and a focus on aligning investments with personal values or global trends. High net worth individuals (HNWIs) are also reshaping their portfolios, moving beyond the traditional 60/40 equities and bonds allocation and turning to private markets to enhance resilience and diversification.
Venture capital has also become an increasingly prominent feature in private wealth portfolios, accounting for nearly half of all private capital fund commitments by volume over the past decade.
“I would say most family offices have the choice to go for value-based investing,” says Shenal Kakad, head of private markets at Barclays Private Bank. “And you tend to find they are naturally attracted to deals that do good or are disruptive.”
Such “disruptive” deals include AI. “I think it’s well understood that a lot of these ideas are in the private space,” says Ms Kakad. “It’s also well understood that these companies have a choice if they go public or if they don’t go public, which means if you want to back these trends, it’s not just about waiting until they go public anymore,” she explains. You might “never” get that chance to invest in these trends, she warns.
“The reason we’re making the comment that private investors are now doing what the institutions are doing is that, for the first time, they have access to almost everything that the institutional investors have access to,” says Ms Kakad. Private banks are “creating more vehicles” for private investors to access venture capital, infrastructure, buyouts and credit, giving private wealth clients unprecedented access to institutional-level opportunities.
Cloud cover
Experts still recommend balancing investments between public and private markets. “Within private markets, exposure to venture capital provides strong exposure to disruptive innovation,” says Sundeep Gantori, equity strategist at UBS Global Wealth Management.
But UBS also favours more stable assets within digital infrastructure that provide building blocks for the AI revolution. “In public markets, our AI portfolio gives exposure to publicly listed AI companies that offer strong scale, margin, balance sheet and execution advantages,” says Mr Gantori.
After all, many clients of UBS and other banks have done well from investing in Nvidia, the dominant US multinational technology company that specialises in GPU-accelerated computing, AI and digital twins, which has offered a golden ride to shareholders, alongside other big tech firms.
“If you believe in the opportunities from AI, then it’s not clear that investing in public markets is a mistake,” says Tim Gordon, co-founder of Best Practice AI, a firm that assists organisations in using AI to build sustainable competitive advantages.
“The financial winners of the AI wave to date are the cloud providers who have positioned moving to the cloud as key to getting ready for AI,” he adds. Publicly quoted big tech companies dominate the global cloud market, where all the evidence points to scale being the key factor, he says.
There are many options in the private market, as acknowledged by Mr Gordon, but access to the right deals remains a key issue. “Everything allegedly has an AI angle, and choosing the right opportunities can be a challenge,” he says.
In August, investors sharply sold off shares in technology companies, causing financial markets in the US and Asia to tumble, with AI stocks taking an especially hard hit. The “Magnificent Seven“ — Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia, and Tesla — lost more than $650bn in market cap.
This has led some commentators to cast doubt on the strength of AI. “We are in something of an AI bubble — although calling the top will be hard,” says Mr Gordon. “Perhaps the best way to think of this is as rather like the dotcom boom: a bunch of poor investment decisions were made, and lots of money was lost, but the long-term winners have defined the stock market ever since.”
Private markets — bubble territory?
While the hype and interest around AI may be considered a ‘bubble’, some doubts have also been cast over whether private markets follow a similar trend.
Private credit has been one of the fastest-growing asset classes over the last 25 years. While there are many reasons to justify this growth, some asset managers view this expansion with some caution.
“The space features many new managers with little history or experience operating through a prolonged negative cycle,” says John Sherman, portfolio manager at Polen Capital, an investment management firm based in the US, with $6.3bn in assets under management.
“Over the last five years, a significant amount of capital has been raised by only a limited number of managers; due to a lack of liquidity, investors may not be able to exit investments early,” he warns. There is also a high degree of financial leverage within credit managers’ portfolios and to access the asset class, investors end up paying high management fees.
Anytime that one sees significant growth in an asset class, it is worth “taking a pause” to understand whether the reasons for the “great historical performance are repeatable”, according to Mr Sherman. Additionally, investors should scrutinise if there has been any “style drift” of the underlying managers as they invest increasingly large amounts of capital.
“While we believe the private credit asset class remains poised for good long-term performance, as always, let the buyer beware,” he cautions.