Sell in May and go away, runs the old stock market adage. Only, private equity funds can’t sell as exit channels dry up. This is such a widely recognised problem that The Wall Street Journal has published a story with a headline warning that “Pensions Piled into Private Equity. Now They Can’t Get Out”, complete with a zombie hand clutching at wads of dollars.
According to the report, “payouts have dried up, creating an expensive problem for investment managers overseeing the savings of workers”. I suspect even the most complacent US pension fund board members might start waving the WSJ story at their investment team, demanding an explanation.
In the UK, City AM reported on the Labour Party’s plans to close the carried interest tax loophole, which allows private equity deal income to be taxed at the capital gains rate of 28% rather than the high income tax rate of 45%. According to Resolution Foundation figures quoted in the report, carried interest in the UK is worth some US$2.54 billion a year.
Meanwhile, the Financial Times and Fortune magazine both reported the gist of a paper from the University of Oxford Said Business School, which estimates that carried interest payments for private equity funds have amassed some $1 trillion in payouts to the funds’ managers over the past 25 years. Because of difficulties getting transparent and comprehensive data on private equity performance, it says the actual figure could be as high as $1.7 trillion.
The paper notes that as much as 70% of invested capital is in the carry. Furthermore, “there are nearly 100 recognised private equity related billionaires, with a total wealth of $450 billion, versus none at the start of the century”.
In the US, attempts to close the carried interest tax loophole have so far foundered, stymied by intense lobbying. But as the paper points out, carry is only one of several fees charged by private capital fund managers.
Investment professionals exposed to the asset class should read the paper. If a shakeout in the private equity market is coming, it’s richly deserved.
