Home Private Equity Bilal’s Macroscope: The Private Equity Party Is Over

Bilal’s Macroscope: The Private Equity Party Is Over



  • Private Equity (PE) exits in the US fell 26% last year, resulting in a collapse in distributions paid to investors.
  • Despite this, SWFs, Endowments, and other LPs continue to suggest increasing allocations to PE in the coming years.
  • PE managed to immunise their PortCos against higher rates, but PE returns have underperformed public market returns.

Market Implications

  • We expect PE to face pressure in coming years due to high starting valuations for buyout, resulting in lower expected returns.
  • We also watch for the negative impact of NAV loans and expect the regulatory burden on PE to increase. This will increase transparency for LPs but add further costs to GPs.

PE Activity Remains Under Pressure While Expected Returns Fall

1)     What Happened to PE in 2023?

2023 was another tough year for PE. High interest rates, multiple compression in public markets (outside Big Tech), and recession fears all dampened risk appetite.

New capital raised by PE firms stalled at $556bn globally – almost identical to 2022 – but the number of new funds raising money was far lower. Just 600 or so new funds raised capital, the lowest since 2012 versus well over 1,000 in 2022. This tells us a small number of large deals drove much of the fundraising activity.

GPs also struggled with investment realisations as US exit values dropped 26%. Exits via strategic acquisition and secondaries were the lion’s share as the public market remained closed to PE.

Just $5bn was raised via public market exits in the US last year as the number of IPOs crashed to just nine from a high of around 150 in 2021. This brings the total share of public market exit values to below 5% – lower than in 2008!

How did this impact LPs? The biggest impact has been a decline in fund distributions – this is where the cash generated by investment realisations are passed back to allocators.

Distribution yields (aggregate one-year distributions as a share of beginning NAV) fell to just 13% from over 25% in 2022 and a pre-Covid mean of around 27%. As an allocator, this means more capital is locked away for longer.

(Chart 1: blue line = capital raised, orange line = fund count; Chart 2: blue line = private to private, orange line = private to strategic, grey line = private to public; Chart 3: orange line = private to public)

2)     Should We Expect PE Allocations to Decline?

Despite the slowdown, a recent PEI survey suggests long-term capital is looking to increase allocations further. Almost 40% of institutions said they want to increase allocations in the coming years.

This follows years of rising allocations to PE. For instance, the average allocation to PE was around 6.5% in 2018, while today it is over 10% . The rise stems from a boom in Foundations and Endowments, which have increased their allocation to PE by more than 6% over the same period.

(Chart 4: blue line = foundation/endowment, orange line = insurance company; grey line = private pension fund; yellow line = public pension fund; light blue dotted line = average; Chart 5: blue line = decrease allocation, orange line = maintain allocation, grey line = increase allocation)

3)     What Does This Mean for PE Returns?

We think the big risk for LPs is a prolonged period of underperformance relative to public markets and expected IRRs. We saw this last year as PE underperformed public markets by 9% to the end of June, and there are reasons underperformance could continue.

First, however, we break down the PE strategy:

  • Buy good businesses at a discount to public market valuations.
  • Spend time improving the operating performance.
  • Seek an exit in around five years, aiming to benefit from multiple expansion and improved earnings.

This strategy most closely resembles mid/small-cap value.

Before Covid, PE buyouts were around 0.8x the EBITDA of public market valuations and 1.0x for EV/Sales – also known as the ‘illiquidity discount’.

However, more recently, this ‘illiquidity discount’ has shifted to an ‘illiquidity premium’. The most recent deals are happening at around 1.1x EV/EBITDA of listed mid-cap, and 1.2x on EV/Sales.

What explains the flip? The first is that the large influx of capital into PE has increased competition, pushing up valuations. Another is that investors are increasingly seeking larger PE allocations due to the lack of volatility from the smoothening of valuations, sometimes known as ‘volatility laundering’.

However, the takeaway for LPs is that higher starting valuations must reduce expected returns ahead.

(Chart 6: orange line = private-public equity; Chart 7: orange line = PR vs small cap, blue line = PE vs large cap, grey line = PE vs mid cap; Chart 8: orange line = PR vs small cap, blue line = PE vs large cap, grey line = PE vs mid cap)

4)     How Have High Interest Rates Impacted Portfolio Companies?

PE may have found reprieve in recent months as the 3y leveraged loan spread narrowed from 5% to around 3% at the end of 2023. However, in a world where loan rates are still above 8%, the industry has had to shift its business model as rates impact everything – including how buyouts are conducted, what investments are attractive, and how value is realised in PortCos.

One adjustment from GPs is to ensure new buyouts are less leveraged, as we saw a steep decline in Debt/ EBITDA ratios.

GPs have also added value by ensuring PortCos were generally immunised against the impact of higher interest rates. We add to relevant quotes from the recent earnings calls below:

‘In Q3 2021, we made the decision to increase the notional of hedged floating rate debt to 90%, which has positioned us well today to protect the cash flows at our portfolio companies from the rising rates that have occurred.’ – Princess Private Equity, November 2023

‘A large part of the debt in the underlying portfolio companies is fixed and not floating. And many of the managers have also put in place things like interest rate swaps. So the company is well prepared.’ – Pantheon International, March 2023

This immunisation has generally supported company performance by minimising interest payments.

(Chart 9: orange line = leveraged 3y loan rate; Chart 10: orange line = leveraged loan 3y spread; Chart 11: orange line = debt/EBITDA)

5)     What Risks Are Investors Watching?

There are other risks LPs should watch for as well. The emergence of NAV loans should be particularly concerning for investors as they increase the risk of business underperformance to the wider portfolio.

The benefit of NAV loans is that they allow GPs to provide PortCos with cheaper funding than they might get via the market. However, if bankruptcies rise, the NAV loan could force asset sales at cheap valuations impacting. We saw something similar happen with the Woodford Patient Capital Trust.

The other risk to the industry is increased regulation. Last August, the SEC announced a series of regulations aiming to improve investor transparency around the valuation processes, secondary deals, and more.

We also saw the UK’s FCA begin its review into private market valuations. Further scrutiny of the valuation process is positive for LPs but may ultimately hurt GPs as it increases costs and prevents funds from keeping valuations at unrealistic marks.

6)     How Have PE-Backed Stocks Performed in the Public Market?

Since the end of 2020, both PE- and VC-packed IPOs have materially underperformed public market peers.

The Morningstar PE-backed IPO index is down almost 30% to end of last year, while the VC-backed IPO index is down over 50%. During the same period, the S&P mid-cap index returned around 27%, while small caps returned 26% (we use the S&P index rather than Russell due to the profitability criteria).

In contrast, an index comprising listed PE firms (KKR, Blackstone, Apollo etc.) has flourished, easily outperforming their listed PortCos. It makes you wonder who has benefited from the PE boom recently?

(Chart 12: orange line = VC-backed IPO Index, blue line = PE-backed IPO Index, grey line = S&P 500, yellow line – listed PE)

7)     Does PE Add Value?

PE has undoubtedly generated great returns historically. IRRs on a 5- and 10-year basis have outperformed their public markets peers – even net of fees.

These returns have helped drive the mass influx of capital into PE over the last few years. However, like all asset classes, PE is not a monolith. The returns of different funds and vintages have diverged widely. The best returns have typically been generated by the largest players with the best access to deal flow or smaller specialist players operating in a niche segment of the market (i.e., healthcare).

We also highlight Verdad Cap research on the operational performance of almost 1,000 companies before and after being taken over by PE. They find that PE tend to buy quality firms using leverage but generates value by reducing capex and spend without materially improving revenue or profit growth.

(Chart 13: orange line = US PE, blue line = S&P mid cap, grey line = S&P 500)

8)     How Has VC Fared?

In Venture Capital (VC) land, the environment has been just as tough. The shift in the market’s preference from revenue growth to quality (profit – FCF less SBC, strong balance sheets etc.) has directly impacted VC returns, particularly in late stage. In addition, a reduction in software spend and M&A by large corporates has hit one of the fastest growing sectors over the last few years.

However, the emergence of AI in late 2022 has resulted in a scramble to try and find attractive investments and gain access to the top deals. This caused investments to surge last year. Other areas such as semiconductors, cyber security, and renewables have also done well.

(Chart 14: orange line = AI core, light blue line = audio, grey line = code, yellow line = healthcare, blue line = natural language interfaces)


Bilal Hafeez is the CEO and Editor of Macro Hive. He spent over twenty years doing research at big banks – JPMorgan, Deutsche Bank, and Nomura, where he had various “Global Head” roles and did FX, rates and cross-markets research.



Viresh Kanabar is an investment strategist with 8+ years of experience, notably contributing to portfolio construction and risk management at CCLA Investment Management, a £12 billion fund. Viresh was also a voting member of the Investment Committee and ran the private asset valuation process.



(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)     

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