Study: Private equity outpaces S&P by 5%

An Oxford University and London Business School study shows private equity’s outperformance of the S&P 500 over 30 years was generated by the industry’s top-decile all stars.

The private equity industry grew rapidly over the last three decades, driven in large part by the outsize returns the industry generated compared to other asset classes. 

A recent study released by Oxford University and the London Business School demonstrates just how strong those returns were, with 1980 to 2008 vintages beating the Standard & Poor’s 500 by more than 5 percent as of June 2010. 

When “young” funds – vintages raised between 2006 and 2008 – are excluded, the industry’s overall performance improves significantly, beating the S&P 500 by more than 8 percent. The study drew its performance data from funds’ internal rates of return and money multiples. 

The study’s dataset, which authors Chris Higson and Rüdiger Stucke tout as the most comprehensive ever assembled, covers 85 percent of the capital raised by US buyout funds. Capital commitments accounted for in the study amount to more than $1 trillion, according to the report. 

However, private equity’s robust historical returns should not contribute to a less discerning limited partner. Only 60 percent of funds studied outperformed the S&P 500, indicating that the strength of the industry’s 5 percent outperformance over the stock index was driven by a handful of high-performing outliers in the top-decile of funds, according to the report. 

Furthermore, while LPs have been rewarded for their investments by $194.2 billion in distributions, the firms themselves kept nearly as much – $189.9 billion through management fees and profit sharing agreements, according to the study. 

The favorability of fund terms has been shifting in LPs’ direction, with investors using the difficult fundraising environment to negotiate better terms in exchange for commitments. A recent study released by law firm Nabarro found that 80 percent of LPs expect a break on management fees in exchange for committing to a first close. Even established firms like Kohlberg Kravis Roberts have been easing the terms on their funds, offering a 7 percent preferred return for the first time, according to a source with knowledge of the firm.