Investors and fund managers alike frequently benchmark private equity returns against public markets in order to gauge the relative performance of their investments.
For investors, it is an important exercise to undertake to inform portfolio construction decisions and to evaluate the performance of one asset class against another. For fund managers, it forms a key aspect of fund marketing to help secure investor commitments. Private equity returns, however, are not directly comparable with public market indices, due to the asset class’s illiquid nature and irregular timing of cash flows.
To aid the industry in benchmarking performance, Preqin has launched a new PME tool which offers benchmark and fund-level comparison against six public market indexes using a choice of three PME methodologies: the Kaplan-Schoar PME, the Long-Nickels PME, and the Capital Dynamics PME+. These tools overcome the benchmarking difficulties by accounting for the timings of fund cash flows in a public market index, and can be used to analyze and compare private equity performance with public markets. Overall, these methodologies confirm private equity’s ability as a whole to outperform public markets over the longer term, but also highlight specific key findings:
• Compared to the S&P 500 total return index, the Kaplan-Schoar PME shows that investors in a typical 2004 vintage private equity fund are 25 per cent better off than if they had the same cash flows in the public market over the same period.
• When looking at the Long-Nickels PME and Capital Dynamics PME+, 2002 vintage funds stand out in particular. These funds have the highest median net IRR of 18.4 per cent, compared with a PME+ value of 7.3 per cent and an LN PME of 6.3 per cent.
• For buyout funds specifically, 2000 vintage funds have returned 63 per cent more than the public market over the same period to 31 December 2014 when compared against the Russell 3000 total return index using the KS PME methodology.
• For the same vintage and methodology, venture capital funds underperformed the public market (Russell 2000 index) by 48 per cent.
“Private equity returns are not directly comparable with public market indices, given the asset class’s illiquid nature and irregular timing of cash flows,” says Christopher Elvin – Head of Private Equity Products, Preqin. “As such, the industry has long used the analogy of comparing ‘apples with oranges’ when discussing these difficulties. Preqin is delighted to announce the addition of PME benchmarks and individual fund level PME comparisons to its Performance Analyst service, which already provides net-to-LP fund performance metrics for over 7,600 named vehicles globally. This will provide users, and particularly investors, with an essential tool for analyzing private equity returns, specifically as an alternative measure of ranking fund performance while controlling for broader market behaviour.”
