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Plotting J-Curves and the “W-curve” effect

by Gary Broughton

  • 28 Jan 2011
  • PE

An indication of the typical life cycle of a private equity fund can be found by plotting the net IRR at each quarter-end through the fund’s life. Using the median fund of a typical vintage year, this plot produces the characteristic “J-curve”; however, due to the financial crisis, the J-curves for some vintage years now resemble more of a ‘W-curve’.

Private equity funds will usually show negative IRRs in the early stages of their investment life cycles, as capital is drawn down. Over time, these investments should gain in value and generate profit, pushing the IRRs into positive territory until the end of the fund life is reached and fund managers look to exit their investments and liquidate their funds. Research by Preqin shows that private equity funds across all vintage years generally show a decrease in median IRRs from Q3 2008 until Q3 2009 and it is this decrease that has generated the “W-curve” effect in the returns of funds of some vintage years. The evolution of returns of the median vintage 2005 and vintage 2006 show the biggest “W-curve” effect as returns were in the black prior to the financial crisis before decreasing and then rising again as the markets stabilized. Since Q3 2009, funds across all vintage years have shown increased returns.

More details on private equity performance can be found on Preqin’s Performance Analyst.

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