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Earlier this week, MainFT reported that hedge funds are complaining that their fundraising efforts have been hurt by the amount of money investors have locked up in private equity funds – which pay no returns.
As Michael Monforth, Global Head of Capital Advisory at JPMorgan Chase, told our colleagues:
The lower percentage of distributions from private equity, [private] Debt and venture funds are having a domino effect, causing some allocators to halt new investments in illiquid funds and scale back new investments in more liquid hedge funds.
However, this made FT Alphaville curious: how big is the gap between the money private equity firms raise and the realized returns they actually return to investors? So we asked Preqin for the data, and, friends, it’s absolutely huge.
Private equity firms have taken more money from investors than they have returned to them in profits six consecutive yearsfor a total gap of $1.56 trillion during that period.
And this isn’t just about the recent glut of capital raised, lagging returns and blocks to private equity exits. Even counting the big returns from 2013-2017, private equity funds have now raised $821 billion more than they raised in the fourteen years covered by Preqin’s data series.
You might think that in a ruthless, meritocratic industry like private capital, this might have had an impact on pay? Ahahaha no, of course not you dear child.
FTAV looked at the labor and stock-based compensation costs of the largest publicly traded North American private equity players and they totaled more than $100 billion over the past five years.
There’s a reason why Oxford finance professor Ludovic Phalippou called the sector a “billionaire factory” in a prominent 2020 article examining private equity returns.
US PE funds raised $1.7 trillion between 2006 and 2015, generated $230 billion in carried interest and delivered investors an overall net performance equal to that of stock indices and small-cap mutual funds. Most of this money goes to the largest PE firms, and within the largest PE firms, most of the money goes to a few partners, often the founders. At least, this was the model until a few years ago. First, the four largest PE firms went public in the late 2000s. Since then, the Carry they earn (as well as other compensation) has been distributed to their shareholders (including the founders). Then, in recent years, some PE funds have bought stakes in private PE firms, paying existing shareholders (primarily the founders of these firms) a large amount of money to gain access to some of their future flow. of fees and Carry. These transactions resulted in many PE firm founders becoming multi-billionaires. Many founders who have not sold some of their PE firms are likely also multi-billionaires, but have not realized that value and therefore do not appear in the multi-billionaire rankings.
Of course these things move in cycles. There are of course years in which more money is raised than given back. And perhaps the trillions raised over the past four to five years will ultimately flow back to investors many times over over the next decade.
But the fact that private equity alone is behind a record 28,000 companies worth an estimated $3 trillion at a time when most stock markets are at or near record highs does not fill you with confidence. There’s a reason why shares in PE and VC funds are often sold at deep discounts.
There just seems to be too much of a disconnect between what private equity and venture capital have paid for many assets, the returns their investors expect, and what the public markets or other potential buyers are willing to pay.
And as long as that remains true, there will continue to be a long and difficult case of investor indigestion. After all, NAV loans can only take you so far.
Read further:
— Is private equity actually worth it? (FTAV)
— Review of private equity valuations (FTAV)
– The “dry powder” of the private capital sector has reached $4 trillion (FTAV).