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A Closer Look at Private Equity Earnings Dispersion

presented-by-peracsInvestors are turning towards private equity more and more as a means of diversifying their portfolios and seeking high returns. There are a number of risk/return variables that one must take into account in order to adequately allocate funds responsibly. One of the biggest of these is geographic focus, and when it comes down to investing in developed markets, North America or Europe.

So what have been historical returns been like for each region? Is there a reliable means to assess and predict performance of funds in these regions? A recent research study conducted by PERACS’ Oliver Gottschalg as well as Dr. Ralf Gleisberg and Ramun Derungs of Akina, the European lower and middle-market investment adviser to private equity programs, provides some insight to these questions. Their research, based on a comprehensive data set from Preqin of 771 mature European and North American primary buyout funds covering fund vintage years from 1998-2007, analyzed the return dispersions between North America and Europe.

From the data set, 1000 random portfolios were created using Monte Carlo simulation methods, computational algorithms that rely on numerous repeated random samplings. From these simulated portfolios, they are able to determine the average return of all underlying funds, as well as the return dispersion by utilizing techniques developed by PERACS.

They found that the average returns of the primary funds in the subsamples from Europe and North America are very similar. However, “the dispersion of returns is greater across European funds than for the North American peers allowing the European funds to outperform. Adding further funds to the portfolio leads not only to a convergence of the worst performing European to the North American portfolios but also results in higher best performing portfolios of European funds. For instance, increasing the number of underlying primary funds to 15 increases the bottom portfolio to 1.26x in both regions. However, the best performing portfolio is meaningfully higher in Europe than in North America (2.47x vs. 2.36x).”

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