Had you sold in ’09, you’d be sorry now

With pre-crisis funds bouncing back, LPs can thank private equity’s inherent illiquidity for stopping them from getting out too soon, writes Philip Borel.

Private equity’s ongoing recovery is becoming a well-documented phenomenon. Plenty of data points are available showing the steadily improving health of the asset class.

Here are just three snippets that help illustrate the trend:

1). HarbourVest, the fund of funds, said last week that a listed portfolio it manages rose 19 percent in economic NAV in the year to 31st January;

2). The Carlyle Group, in its annual report published this week, disclosed record capital distributions to its limited partners, with nearly $14 billion having gone back to the firm’s investors in the past five quarters;

3). An investor in Permira, Europe’s leading large-cap house, told PEI that Permira IV, which was raised in 2006 and comprises a number of top-of-the-market investments, had bounced back from sharp mark-downs and was once again being valued above cost, with around €1.5 billion yet to be invested.

Philip Borel

Contrast these indicators with the seemingly bleak future for private equity in the aftermath of the financial crisis. It is now clear that the LBO catastrophe some prophesied two years ago has not materialised. To the contrary: the likelihood is even investors in some of the funds that were raised immediately prior to the crisis will end up making profits.

However, if these happy ends do happen, they won’t always be down to the investors holding their nerve, or indeed their good judgment. It is interesting to think about how many LPs would actually no longer be in these funds today had there been an easy way out of them when valuations were plummeting.

Private equity is a notoriously illiquid asset class, and when the crisis was at full swing, for many LPs the illiquidity was very difficult to cope with. But selling funds in the secondary market remains complicated and costly, and to many investors is still an off-putting prospect. In the dark days of 2008 and 2009, LPs would have felt a strong urge to quit the class, but they hung on in regardless, if only because the alternative – selling at a discount – seemed as bad if not worse.

Today, with portfolio valuations recovering strongly across the board, these same LPs may have to thank private equity’s inherent illiquidity for preventing them from rushing to the exit prematurely. Advocates of the asset class should shout about this from the roof tops: getting out early is a pain in the arse – and not something return-conscious investors should be aspiring to anyway. Because with private equity, it’s the long-term result that really counts.