Investment Risk Patterns in Private Equity

by Etienne Paresys

  • 13 Nov 2009
  • PE

The private equity industry offers a wide choice of investment strategies, from early stage investments funding start-up companies to buyout operations acquiring majority stakes in global corporations. Each investment type has its own risk pattern, and consequently returns are very diverse amongst the different types of private equity funds. It is therefore important for investors in private equity to assess the risks and returns specific to each strategy, in order to build a diversified and profitable portfolio of funds.

Comparing the IRR dispersions for each specific fund type, it appears that venture capital and early stage funds are amongst the riskiest. Buyout funds are also widely dispersed around their respective benchmarks, but fewer of these funds are posting IRRs with extremely high differences from the benchmark. Real estate funds and funds of funds have IRR dispersions much more clustered around their median benchmarks. Mezzanine seems to offer the least variable return pattern in the private equity industry, with 70% of mezzanine funds posting IRRs within +/- 5% of their median benchmarks.

The risk is obviously only one side of the equation and expected returns are ultimately inseparable from any investment opportunity. Investors need to weigh up both sides, as none will be willing to take high risk if no appropriate rewards are to be expected. With IRRs and Value Multiples for over 4,800 funds worldwide, Preqin’s Performance Analyst database is the perfect tool to analyse the performance of private equity funds and assess the risk-return patterns.

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