LPs braced for lower returns

Limited Partners are realistic but fundamentally optimistic in their return expectations according to an investor survey undertaken by Private Equity Intelligence (Preqin).

The survey revealed that most LPs expect that IRRs will be lower than the returns they enjoyed in the recent past, but are expecting IRRs in the 15-20% range for the coming five years.

The slow-down in distributions from private equity funds, combined with the decline in other financial markets (the ‘denominator effect’), means that LPs are now at or near their target allocations: Twelve months ago only 29% of institutions were at or above their target allocations, today nearly half of them (48%) are.

Preqin’s data indicates that LPs positive expectations for private equity returns will support the combined growth of the asset class. Fundraising will likely be depressed in 2008 and 2009, but positive fundamentals will ensure a strong recovery in 2010 and beyond.

The survey also reveals that the most important factors to investors when selecting managers is track record and firm experience, with alignment of interests between managers and investors and the depth of the team also being important.

The tough market conditions favour managers with a tightly focused strategy. Investors prefer firms with a narrow focus to ‘one stop shops’. Forty percent express a preference for a narrow focus, 21% preferring a one stop shop, and 39% preferring a medium focus.

The research also indicates that consultants are playing an increasingly important role – 48% of investors are using the services of a consultant when making PE investments. 7% of those poled expect to increase their use of consultants, with only 2% expecting a decline (91%) remaining the same.

Managing director of Preqin Mark O’Hare said: “LPs fully understand the challenges facing markets generally, and private equity in particular. Despite this, they remain cautiously optimistic of the prospects for private equity, and appear set to continue the longer-term trend of making increased commitments to the asset class.”