If you have been following this site\u2019s private equity coverage over the years, you will have noticed how the industry has been salivating over the possibility of getting retail dupes to invest in their funds. Mind you, this push was underway years ago, even as leaders, at the very same time<\/strong><\/em>, were warning that returns were set to fall. <\/p>\n Things have gotten even worse as funds are unable to sell their doggy portfolio companies, and have been resorting to much-hated gimmicks like continuation funds to try to finesse the problem (more on that soon). That means that investors that needed to get money back on some reasonable time frame, particularly pension funds who have beneficiary obligations to meet, are having to resort to extreme measures like borrowing to pony up the funds. <\/p>\n The device that the new SEC chair Paul Atkins intends to use to let private equity pick individual investor pocket is by loosening accredited investor rules. They are intended to keep small fry who can\u2019t afford to lose much money away from risky products with poor disclosures and super complex agreement that mask their \u201cheads I win, tails you lose\u201d provisions, like private equity and hedge funds. That\u2019s before getting to the fact that the risk\/return tradeoff now is worse than for public stocks (CalPERS shook the hedge fund industry by concluding that in 2014 and abandoning hedge funds altogether; private equity has not been outperforming stocks since 2006 yet it has higher leverage and illiquidity risks).1<\/sup> <\/p>\n Let\u2019s turn the mike over to the Wall Street Journal for a summary of accredited investor rules<\/a>:<\/p>\n Accredited investors must either have a net worth of over $1 million, not including their primary residence; or an income of over $200,000 individually, or a combined income of $300,000 with their spouse or partner, in each of the prior two years.<\/p>\n<\/blockquote>\n A million in net worth is not all that much, particularly if some of it is not liquid, like investments in real estate. Yes, some people in that cohort might be bright young things at a Goldman or a Davis Polk who could evaluate the risks\u2026.and would have picked up that buying complex products at retail is a mug\u2019s game.<\/p>\n Recall that CalPERS estimated that private equity\u2019s total fees and costs were 7%.1<\/sup> That is a simply staggering level. No wonder the fund limited partners are getting more and more unhappy over time. The gross returns of private equity returns of private equity may be high enough to justify the existence of this investment strategy, but not after the general partners\u2019 grifting.<\/p>\n And without belaboring how exactly the retail investor will get his share of private equity, going through another vehicle will mean more fees and costs, further depressing net returns. For institutional funds of funds, fees are prototypically 1% per annum and 10% of the upside. Why should retail get better terms?<\/p>\n And the excuse for considering this move is bogus. From the Journal:<\/p>\n \u201cAllowing this option could increase investment opportunities for retail investors seeking to diversify their investment allocation in line with their investment time horizon and risk tolerance,\u201d he [Atkins] said at the conference in Washington.<\/p>\n<\/blockquote>\n Oh, come on. Hedge fund returns have become highly correlated with those of stocks, so adding them to a portfolio does NOT create diversification. <\/p>\n Similarly, the pretense that private equity returns are not tightly correlated to those of equities is an artifact of bad accounting. First, private equity funds report their results late, typically at least a quarter after the reporting dates of the underlying companies. Once you correct for that alone, private equity and public stocks track together. The tight correlation would become even more exact if the other accounting con were abandoned, that of \u201csmoothing\u201d or under-reporting the fall in valuation, in bad equity markets. <\/p>\n Another way to confirm what a lousy idea this is for anyone outside the private equity industry is to look at the extensive work by the dean of quantitative analysis, Richard Ennis, on the performance of public pensions and endowments who invest in \u201calts\u201d such as private equity, hedge funds, and real estate. For instance, from a writeup in 2023 of some key Ennis papers<\/a>:<\/p>\n Over the years, this site and some important writers like Michael Hudson have written regularly about rentier activity and how it distorts economic performance and creates a parasitical elite. A new paper by finance maven Richard Ennis, who has been systematically analyzing the performance of high-fee so-called alternative investments, shows that they systematically fail to deliver on their promise of superior returns. And the huge amounts of money involved produce an economy-wide drag, even before getting to the destructive effects of shifting more wealth to the top 0.1%, starting with cementing oligarchical control over politics\u2026..<\/p>\n In earlier papers, Ennis documented that public pension funds have underperformed and that underperformance is due to these high-falutin\u2019, big fee schemes. For instance, from a 2020 post New Study Slams Public Pension Funds\u2019 Alternative Investments as Drag on Performance, Identifies CalPERS as One of the Worst \u201cNegative Alphas\u201d; Shows Folly of CalPERS\u2019 Desperate Plan to Increase Private Equity and Debt and Go Bigger Using Leverage<\/a>:<\/p>\n We are embedding an important new study by Richard Ennis, in the authoritative Journal of Portfolio Management,1<\/sup> on the performance of 46 public pension funds, including CalPERS, as well as of educational endowments. <\/p>\n Ennis\u2019 conclusions are damning. Both the pension funds and the endowments generated negative alpha, meaning their investment programs destroyed value compared to purely passive investing.<\/strong><\/em> <\/p>\n Educational endowments did even worse than public pension funds due to their higher commitment level to \u201calternative\u201d investments like private equity and real estate. Ennis explains that these types of investments merely resulted in \u201coverdiversification.\u201d Since 2009, they have become so highly correlated with stock and bond markets that they have not added value to investment portfolios. From the article:<\/p>\n Alternative investments ceased to be diversifiers in the 2000s and have become a significant drag on institutional fund performance. Public pension funds underperformed passive investment by 1.0% a year over a recent decade\u2026<\/p>\n For a decade [starting in 2009], stock and bond indexes have captured the return-variability characteristics of alternative investments in composites of institutional funds, for all intents and purposes. Alternative investments did not have a meaningful effect. The finding that the correlation between funds with significant alts exposure and marketable securities benchmarks is near perfect runs counter to the popular notion that the return properties of alts differ materially from those of stocks and bonds. That, after all, is an oft-cited reason for incorporating alternative investments in institutional portfolios. As we see here, however, alt returns simply blend into broad market returns in the context of standard portfolio analysis in the latter decade.<\/p>\n<\/blockquote>\n<\/blockquote>\n And all of this is before getting to the elephant in the room: that private equity performance had gotten so bad that total assets under management have fallen<\/a> and new funds by established firms are having trouble rounding up new money. So dumb retail investors are to fill the gap? <\/p>\n An early May Financial Times article (admittedly a bit of a way into the piece) describes how private equity is not returning cash the way it used to:<\/a><\/p>\n But according to Bain & Company\u2019s Global Private Equity Report, distributions as a percentage of net asset value have fallen from an average of 29 per cent in the period from 2014 to 2017 to only 11 per cent today. PitchBook estimates there are more than 12,000 US portfolio companies \u2014 around seven-to-eight years of inventory at the observed pace of exits. This is much higher than the five-and-a-half-year median exit time they\u2019ve observed across the industry to date. When anticipated distributions fail to show up, investors need to look elsewhere for cash to meet capital commitments they\u2019ve made to other private equity funds.<\/p>\n<\/blockquote>\n This article mentions, as we have elsewhere, investors going so far as to sell their stakes in private equity funds to generate needed dough. Because private equity is illiquid, those disposals are at a discount.<\/p>\n In a sign of how tarnished the image of the private equity industry has become, big investors have even started to criticize its practices in unvarnished terms. This historically is unheard of; private equity cultivated the allure of the exclusivity of its returns and created a velvet rope dynamic, making investors afraid of the possibility that they might not be allowed to invest. This is utterly backwards; the money is, or should be, calling the shots. But the Stockholm Syndrome dynamic persisted for decades until undeniably crap performance has broken at least some investors\u2019 shackles. <\/p>\n The sheer frequency of negative stories in the Financial Time about private equity substantiates that the strategy is in trouble. The one we just cited is from May 3. We provided a tally of recent, and not cherry picked articles on May 6, in Billionaire Blasts Private Equity\u2019s Continued Grifting as Performance Falls Further:<\/p>\n Private equity\u2019s bind should prompt an investor rethink Private equity goes \u2018risk off\u2019 as it pauses dealmaking Big investors look to sell out of private equity after market rout Hedge funds > private equity Private equity industry shrinks for the first time in decades Pensions dim on US private equity Can private equity meet public responsibilities? \u2013 FT Forums And from the May 6 account, the extension of the critique by by billionaire Nassef Sawiris<\/a>:<\/p>\n Sawiris, who has invested parts of his fortune in funds at multiple buyout firms, said he and others who back private equity funds were frustrated with the lack of distributions in recent years. Firms have struggled to exit investments amid a post-pandemic slowdown in dealmaking and initial public offerings\u2026.<\/p>\n \u201c[Investors] are so frustrated. They are telling them [buyout firms]: \u2018I haven\u2019t seen any returns, you haven\u2019t returned any cash to me in the last five, six years\u2019.\u201d<\/p>\n Sawiris took particular aim at the use of \u201ccontinuation funds\u201d to recycle capital \u2014 a tactic whereby private equity groups, instead of selling an asset to another owner or publicly listing it, move the asset into a new fund where they still maintain control.<\/p>\n \u201cContinuation funds is the biggest scam ever because you say \u2018I cannot sell the business, I\u2019m going to lever it again\u2019,\u201d Sawiris said.<\/p>\n Continuation vehicles have grown increasingly popular in recent years, surging about 50 per cent to hit a record $76bn last year, according to a report from investment bank Houlihan Lokey\u2026.<\/p>\n \tHe also criticised private equity managers\u2019 priorities, saying they were far more focused on raising capital for their investment vehicles than their portfolio companies\u2019 operational performance.<\/p>\n \u201cThey\u2019re spending 90 per cent of their time fundraising and 10 per cent managing the businesses,\u201d he said. \u201cThey attend board meetings, have a board dinner and there\u2019s a reason why they didn\u2019t execute the plan.\u201d\n<\/p>\n<\/blockquote>\n Ouch. <\/p>\n But more damning is the takedown in Bloomberg <\/a>by the head of the Kuwait Investment Authority at the Qatar Economic Forum. While some sovereign wealth funds are seen as savvy, historically most have been dumb money, particularly the Middle Eastern ones. But many have taken in recent years to hiring highly professional staffs. This warning would likely not just be well heeded, but would confirm what many of these sovereign wealth funds had already concluded internally:<\/p>\n The head of one of the world\u2019s largest sovereign wealth funds said the clock is ticking for private equity and joined the chorus of investors who\u2019ve grown worried about the industry\u2019s valuation practices.<\/p>\n The industry has struggled to return money to investors for years, said Sheikh Saoud Salem Al-Sabah, managing director of the $1 trillion Kuwait Investment Authority. While that\u2019s mostly been due to a lack of deals and initial public offerings, Sheikh Saoud said some firms were underwriting deals at valuations that they would struggle to exit.<\/p>\n \u201cPrivate equity is very troubled, I believe, especially in the large buyouts, venture capital and the rise of continuation vehicles \u2014 that\u2019s a very worrying sign,\u201d Sheikh Saoud said\u2026<\/p>\n Other investors and regulators have flagged concerns about the valuation practices inside many private equity firms. The UK\u2019s Financial Conduct Authority, which oversees Europe\u2019s largest center for private markets, launched a sweeping review of appraisals in the industry last summer amid concerns about inconsistent practices.<\/p>\n \u201cI would ask LPs to ask their GPs to let them show them their underwriting process and at what multiples have they been buying in their various vintages,\u201d Sheikh Saoud said. \u201cAnd if they refuse to show you, they\u2019ve been doing something wrong.\u201d<\/p>\n<\/blockquote>\n Shaud\u2019s demand for more transparency around underwriting and valuation should sound perfectly reasonable. But the fact that investors have never gotten that for all these many years shows how severely cognitively captured the limited partners had become. If enough investor are fed up, they may finally force these long-overdue changes. One can only hope. <\/p>\n ___<\/p>\n 1<\/sup> For those with the time and patience, this FT Alphaville piece<\/a> gives a very fine historical summary, then looks at the claims that private equity outperforms, and shows why they are suspect. <\/p>\n\n
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3 days ago \u2014 Private equity\u2019s bind should prompt an investor rethink. Returns are likely to be lower in a world of weaker growth, higher interest rates \u2026<\/em><\/p>\n
Apr 15, 2025 \u2014 Donald Trump\u2019s tariffs are forcing private equity groups to pause their dealmaking and focus on managing their existing portfolio companies, \u2026<\/em><\/p>\n
Apr 6, 2025 \u2014 The race to find liquidity signals that investors in private equity funds increasingly expect to receive few cash profits from their holdings \u2026<\/em><\/p>\n
4 days ago \u2014 After all, whenever private equity buys and sell companies, takes them public or issues bonds and loans to finance them it generates hefty fees \u2026<\/em><\/p>\n
Mar 4, 2025 BE \u2014 Private equity fundraising dropped 23 per cent in 2024, with the industry drawing in $401bn in new assets \u2014 the weakest tally since 2020.<\/em><\/p>\n
Apr 14, 2025 \u2014 CPPIB\u2019s trepidation over investing in the US, in particular, is a huge blow to the private equity sector. The fund had close to $50bn of \u2026<\/em><\/p>\n
To say that opinions on private equity\u2019s sustainability record are divided would be a wild understatement. When we polled FT Moral Money readers, respondents \u2026<\/em><\/p>\n<\/blockquote>\n\n
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