With growing uncertainty surrounding assets traditionally perceived as ¡°safe havens¡± (i.e., US Treasuries and the US dollar) and in light of new record highs in public market valuations, investors are increasingly seeking alternatives. As an asset class, private equity is well positioned to benefit from falling benchmark interest rates and a more favorable regulatory environment, which could occur if the US Federal Reserve lowers rates and deregulation advances in the US. In our view, private equity is a valuable tool for investors to enhance long-term returns, both on an absolute and a risk-adjusted basis, and to gain early access to innovative, privately held companies that may hopefully mature into market leaders in their industries.
However, over the past three years, private equity investors have faced challenges. Returns have noticeably weakened, falling short of expectations. This has led to discomfort among investors and raised the question of whether such strategies can continue to deliver attractive returns. We would like to address these concerns and clarify some common misconceptions.
Many investors expect private equity to provide a steady stream of distributions, with portfolios typically achieving annual distribution rates of 20 to 25 percent toward the end of their investment horizon¡ªmeasured as a percentage of their net asset value (NAV). In recent years, however, distributions have dropped to just 10 to 15 percent. We see several reasons for this decline: higher interest rates limit the use of leverage, economic uncertainty slows down IPOs, and there are fewer acquisitions overall, as CEOs are more hesitant when it comes to investments as well as mergers and acquisitions.
Currently, funds worldwide are holding record levels of unrealized NAV, totaling around USD 3 trillion, with about USD 2 trillion of that in the US. While this may sound dramatic, much of it is due to the age of the funds: around 25 percent of unrealized NAV comes from funds launched less than three years ago, and about half is from funds younger than five years. These younger portfolios are still in their build-up and maturation phase and are not yet ready to deliver robust returns. Older funds¡ªthose over five years¡ªgenerally produce solid liquidity, in some cases even above historical averages. Furthermore, the recent slowdown may also be a counter-movement following a period of above-average distributions.
Looking ahead, we expect that earnings will rise in the coming year. If the Fed begins cutting rates in September as anticipated, this should lead to greater flexibility for acquisitions. A more stable macroeconomic environment could revive IPOs and investments. The past few months already suggest a turning point: Exit activity picked up again at the end of 2024 and the beginning of 2025, but only the coming months will show whether this trend will actually continue.
For investors, it is crucial to accept the natural volatility of private asset cash flows and not to react to short-term trends. Private equity is not a metronome¡ªit is more like a symphony with both crescendos and pauses. Consistent capital allocation and diversification across different vintages remain the most reliable strategies we see for managing risks. Instead of trying to time the market, steady annual commitments help smooth out fluctuations and support portfolio growth. Aligning with individual liquidity needs is essential¡ªin private equity, capital is often tied up for more than a decade. Combining private equity with shorter-term investments such as private credit or real estate can provide additional liquidity where needed. Ultimately, patience, good preparation, and discipline will help investors benefit from the long-term potential of private equity as the market finds its rhythm again.
