Q3 PE returns turn negative – study

State Street Corporation’s GX Private Equity Index saw a negative return of 1.37% for Q3 2015, down from a 4.22% gain in the previous quarter.

State Street Corporation’s GX Private Equity Index posted an overall negative return of 1.37 percent for the third quarter of 2015, ending a 12-quarter streak of positive returns, the firm said.

State Street Global Exchange vice president Will Kinlaw told Private Equity International that the previous quarter had a gain of 4.22 percent.

The index, which includes data set from limited partnerships representing over $2.3 trillion in private equity investments, found that this negative return is the biggest decline since the third quarter of 2011. According to Kinlaw, it measures the internal rate of return with valuation and cash flow factored in, and net of fees and carried interest.

According to State Street, there have been only 10 quarters in the index’s history that saw bigger losses, such as the third quarter of 1998 during the Russian debt default, the fourth quarter of 2000 during the dot-come bubble implosion, the third quarter of 2008 to first quarter of 2009 during the global financial crisis and the third quarter of 2011 during a period of Eurozone crisis concerns.

“Given the performance of the public market in the second half of last year, it’s no surprise the private market suffered a drawdown,” Kinlaw said.

He said there are both direct and indirect effects of the public market on the private. Directly, private equity managers hold publicly-listed shares on their books after their portfolio companies do initial public offerings and PE firms hold shares and unload them. Indirectly, a decline in public market multiples and in valuations affect the prospects of getting good valuations during private asset exits.

Buyout, venture and private debt strategies each saw a loss in the third quarter with negative returns of 1.63 percent, 0.51 percent and 1.27 percent, respectively. Within the buyout strategy, mega and large buyouts had a negative 1.94 percent return and mid and small buyouts declined 0.11 percent.

In terms of geography, funds outside the US and Europe, mainly in emerging markets, fell to a negative 3.13 percent return in the third quarter, from a 4.47 percent gain in the second quarter. European-focused funds marked a return of 0.29 percent in the third quarter, compared with 7.78 percent in the second quarter. US-based funds saw a negative 1.25 percent third-quarter return, up from a negative 1.43 percent return in the second quarter.

Total realised proceeds from exits fell 17.8 percent in the third quarter and 16.4 percent in the fourth quarter. According to Kinlaw, in the fourth quarter 2015, distributions from exits exceeded capital calls by only 5 percent, the narrowest gap he’s ever seen between these two measures.

“It’s been a trend for several years, since the summer of 2012, where exit activity and capital returned to investors far exceeded capital call,” he said. “But we’re really seeing that start to converge. We’re on pace for capital calls to exceed distributions.”

He said it could result in a decline in valuations, presenting a new set of opportunities for fund managers.

State Street’s index is based on data from 2,462 private equity partnerships going back two decades.