Private Market Investors Say Fees Matter Most in Manager Selection

Prospective investors in private market funds are more concerned about fee structures than historical performance or fund strategy, according to a PitchBook survey.

Illustration by II

Illustration by II

Fees are the most important consideration for potential investors in private market funds, according to a Pitchbook survey of institutional investors.

Respondents to the survey, including more than 50 allocators ranging from pensions to family offices, weighted performance fees and hurdle rates above all other factors, including the fund’s strategy and historical performance.

The second most important factor in fund selection, according to the survey respondents, was existing manager relationships, followed closely by management fees.

Management fees were the area where the largest portion of respondents believed the interests of limited partners and general partners were misaligned, with about 20 percent of investors saying that they were poorly aligned. Just under a tenth of respondents said investors and managers were poorly aligned on performance fees and hurdle rates.

Traditionally, private equity firms have charged a 2 percent management fee and taken 20 percent in carried interest. However, a recent study by asset management advisor MJ Hudson’s limited partners unit suggested that fees are on the way down.

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Fewer than half of all private equity firms in the study charged a management fee between 1.76 percent and 2 percent, while 19 percent of firms charged a 1.5 percent management fee.

And although 20 percent remained the norm for carried interest rates, MJ Hudson said that more funds are offering arrangements such as deal-by-deal performance fee structures.

Despite their fee concerns, institutional investors surveyed by PitchBook indicated that they planned to allocate more money to private market strategies over the coming two years. On average, respondents anticipated having a 32.5 percent allocation to private market strategies such as private equity and real assets in 2020.

The majority of respondents said private market strategies had met or exceeded their expectations over the last three years, with growth, venture capital, and real assets funds most often outperforming expectations.

Going forward, around a third of investors said they had lowered their return expectations for each private market strategy, though they still expected double-digit IRRs (internal rates of return) for every strategy in the survey except for funds of funds.

The surveyed investors had the highest expectations for venture capital funds, which the median respondent expected to deliver an average IRR of 19.8 percent.