European Private Equity Rebounds Slower Than US, Asia
Asian and North American private equity funds suffered heavier losses during the first quarter of this year than their European peers but bounced back in the second quarter whilst Europe continued to struggle, according to new data from eFront.
Data from the BlackRock-owned tech company's Quarterly Private Equity Performance Report shows that losses in Asia and North America came in at more than 6% but recovered almost completely by the end of the second quarter, whilst European private equity funds remained at around 4% underwater (figure 1).
Figure 1: Quarterly performance in the global PE market in Q1 and Q2 2020 in different regions
Source: eFront Insight, As of Q2 2020. The chart shows the quarterly end-to-end IRR returns for North American, European and Rest of World PE markets which include LBO and VC funds. An end-to-end return calculation is a standard IRR calculated over a set period rather than since inception. The starting period for an end-to-end IRR will convert the ending NAV to a negative value and consider it as the initial cash flow.
Another factor attributable to the Covid-19 crisis was a moderate increase in LBO manager selection risk – measured by the difference between the top and bottom quartile performing funds (Figure 2). As the economic consequences of the current health crisis unfold asymmetrically across sectors, selection risk could further increase in H2 2020.
Figure 2: Evolution of the interquartile spread in performance in the global LBO market
Source: eFront Insight, As of Q2 2020. The chart displays the evolution of the difference in the TVPI return of the top and the bottom quartile fund for the global LBO industry. All the funds in the sample are sorted by the TVPI return and then the top and bottom quartile performing funds are selected. The difference in their performance is used as a proxy for the dispersion in performance across the universe of PE fund managers.
By contrast, the venture capital market recorded a steady decline in manager selection risk over the first half of the year, driven by a relatively higher correction at the top-performing end of the VC market (Figure 3).
Figure 3: Evolution of the interquartile spread in performance in the global VC market
Source: eFront Insight, As of Q2 2020. The chart displays the evolution of the difference in the TVPI return of the top and the bottom quartile fund for the active funds in the global VC industry. All the funds in the sample are sorted by the TVPI return and then the top and bottom quartile performing funds are selected. The difference in their performance is used as a proxy for the dispersion in performance across the universe of PE fund managers.
There is a strong probability that the post-downturn vintage years will see outperformance in the LBO market, supporting a historic trend. This asymmetry can be explained by lower entry valuations and owing to expansionary macro policies that promote economic growth. Similarly, pre-downturn vintage years underperform the historical average. That may be explained by intensive fundraising and investment activity prior to downturns. The relationship between fundraising level and performance is negative due to high competition for targets and the resulting high purchase costs for portfolio companies (Figure 4).
Figure 4: TVPI multiple of global LBO funds across vintage years
Source: eFront Insight, As of Q2 2020. The chart displays pooled average TVPI for the funds grouped by their vintage year.
Finally, looking at the early 2000s and the global financial crisis, the level of capital calls was peaking in the years just prior to the shock. At that time, the annual capital calls made 15%, 20% or even 25% relative to the total fund size. In 2020 the capital calls were lingering around 5% (Figure 5). Two possible explanations for low capital calls are that funds were not rushing to deploy capital at the peak of the market, and because they were using equity bridge financing. If the correct explanation is primarily the former, that may be good news for GPs and their investors, as this behaviour may insulate the industry from the adverse effects of the downturn.
Figure 5: Capital calls and distributions dynamics in the global LBO market
Source: eFront Insight, As of Q2 2020. The chart displays the sum of calls and the sum of distributions that took place in the given quarter divided by the total fund size at each quarter.
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