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US PE and VC funds outpaced public market equities in H1 2014, says Cambridge Associates

US private equity and venture capital funds generated positive returns for their investors in the second quarter of 2014, with the former asset class outperforming the latter by a margin of almost two to one. 

Private equity also surpassed venture capital over the six-month period ending June 30, and both surpassed the performance of public equities at the half-year mark, according to Cambridge Associates.

The Cambridge Associates LLC US Private Equity Index rose 5.7% in Q2, versus an increase of 3.0% for the Cambridge Associates LLC US Venture Capital Index. The PE benchmark was up 8.9% at mid-year while the VC benchmark gained 8.1% over the same period. For comparison, the S&P 500 was up 5.2% and 7.1%, for the second quarter and half year period, respectively.

Both benchmarks had mixed results against public equities over some of the shorter time horizons (up to five years) but the private indexes have easily exceeded public markets for periods shown of 10 years and longer.

Seven sectors in the private equity benchmark represented 5% or more of the index and all had positive returns for the second quarter. Energy, the second largest sector in the index by weight, was the top earner, generating a 9.4% return for the quarter. The sector's performance was boosted by energy company write-ups of more than USD1.0 billion in five different vintages. However, given the dramatic decline in oil prices since June 2014, we expect downside volatility here.

Software and health care each rose 7.5% for the period. Consumer companies posted the lowest return of the seven large sectors, 3.7%.

Q2 saw an increase over the prior quarter in capital calls from fund managers. Calls were up 27.6% over Q1 to USD22.0 billion. Distributions equaled USD39.7 billion, a 5.6% quarter over quarter increase, continuing to outpace contributions.

"We have had 2.5 years of strong distribution activity, with LPs receiving approximately USD2 back for every USD1 called: It's been great. However, a component of that is really just payback for past investment. Over the longer term, ie, the last ten years which encompasses the fundraising boom, the financial crisis and the recovery, fund managers have only distributed USD1.10 for every dollar that they called," says Keirsten Lawton, Managing Director and Co-Head of US Private Equity Research at Cambridge Associates.

Only five vintage years in the PE benchmark represented at least 5% of the index's value, and all five posted positive returns for the period. Funds raised in 2011, the smallest vintage year by weight of the top five, rose 7.5%, the most of any vintage. The 2006 vintage year funds gained 5.2%, the lowest return of the group. The largest vintage year in the index, the funds raised in 2007, earned a 6.2% return for the period.
Taken together, the five largest vintages represented 76% of the PE index's value.

Only Three Sectors were Significantly Sized in the VC Benchmark, but they All Made Gains in Q2
Unlike the PE index, the venture capital benchmark was tightly concentrated by sector, with the health care, IT, and software sectors continuing to dominate the index. These three accounted for 78.4% of the benchmark's value in Q2. Of these sectors, software was the smallest by weight, but it turned in the best performance, gaining 8.5%, helped by widespread write-ups in software companies across the index. 

Health care rose 4.2% for the period while the largest sector in the VC index, information technology, which accounted for almost one-third of the benchmark's value, had the smallest gain: 3.2%.

Paralleling the actions of their private equity counterparts, fund managers in the venture capital index reduced distributions in Q2, but they still distributed far more capital to their LPs than they called.

"Fund managers in the VC index called USD3.8 billion from their LPs in Q2, which was a 4.2% increase over the previous quarter. They distributed USD6.7 billion to their LPs, which though 4.4% less than what we saw in Q1, still made the second period the 10th consecutive quarter in which distributions outnumbered contributions. To put the drop in second quarter distributions in perspective, it's important to remember that they followed the near record-setting level of distributions in Q1, which were the highest quarterly distributions since the final quarter of 2000," said Theresa Hajer, Managing Director, Private Growth Research at Cambridge Associates.

A total of nine vintage years in the VC benchmark represented at least 5% of the index's value. All but two, 2000 and 2004, had positive returns for the second quarter. Returns for the group ranged from a gain of 20.0% for the 2011 vintage year funds to a loss of 2.2% for the 2004 vintage. Write-ups in the software sector were the primary drivers of the 2011 vintages huge return, which was a full 11% greater than the next best-earning sector, the 2012 funds' 9.0% return.

The two largest vintages in the benchmark, the 2008 and 2006 funds, gained 3.6% and 2.9% for the period, respectively.

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