Private equity funds, which buy and sell companies not listed on a stock exchange, are increasingly being marketed to individual investors. The pitches promote democratizing investing by giving the average investor access to exclusive deals, huge target returns, and a chance to “invest like an institution.”

Headline returns for these investments often look enticing, but research shows that those returns rarely reflect the actual economic experience of investors. For individual investors, the gap between perception and reality can be significant.

Tradeoffs to Consider

High Fees – Private Equity Funds often charge 2% fees on all assets plus an additional 20% of all profits. This introduces a significant hurdle that few private equity managers can overcome when compared to public equity investments. The funds we use to access public markets have an average fee of 0.2%. One-tenth the fee andno additional performance fee.

Misleading Returns – Internal rate of return (IRR) is commonly used to report private equity returns. However, IRR’s calculation depends heavily on the timing of cash flows to the investor. Private Equity firms can game these numbers by manipulating cash flows, making IRR return numbers not comparable to the return numbers you see from public markets. For example, the hypothetical return stream below has an IRR of 33% but an actual return on capital closer to 3%.

Investors should focus on the overall growth of their wealth, not return figures grounded in misleading return metrics.

Lack of Access/Liquidity – Private Equity funds typically have high investment minimums, long lockups, and capital call contracts that make it difficult for investors to allocate money to more than a handful of funds. This creates challenges in diversifying investments across the private equity industry, decreasing the likelihood of achieving reliable long-term investment outcomes. The lack of diversification turns investing in this asset class closer to gambling than a reliable long-term investment strategy.

An Evidence-Based Alternative

At Hill, we believe wealth is best built through broadly diversified, transparent, and low-cost portfolios that match your personal risk profile. Public markets offer exposure to the same economic engine as private equity – global economic growth and human innovation – without the high fees and illiquidity.

New research from Dimensional Fund Advisors puts the conclusion succinctly:

“Broadly diversified, transparent, and low-cost public market strategies provide investors with reliable access to global equity and credit risk premia – without the costs and opacity of private funds.”

We agree.

The Bottom Line

Private markets are often marketed as a path to superior returns, but the data tells a different story. Historically, once you adjust for fees, misleading returns, and illiquidity, private equity performance looks a lot like public stock market performance – just with more complexity and buzzwords.

The real question here is not whether private equity occasionally succeeds – it does. It’s whether it offers long-term, risk-adjusted, after-fee advantages over public markets.

The evidence suggests: not really.

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Performance Disclosure (Hypothetical)
Hypothetical or model performance results, when presented, do not represent actual client performance. Hypothetical results do not reflect the impact of material economic or market factors that would have affected an adviser’s decision-making if managing actual assets. Hypothetical results are for illustrative purposes only and should not be interpreted as guarantees of future performance. Actual client results may differ.

Charts
Charts, graphs, formulas, probability visuals, and other illustrations included in this publication are intended to demonstrate concepts and provide context. They are not intended to be used alone to determine which securities to buy or sell, or when to buy or sell them. These illustrations provide limited information and should not be relied upon as the sole basis for any investment decision.