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Performance Gap Shrinks Between Best and Worst Buyout Funds

Favorable markets for leveraged buyout funds proved a rising tide that lifted all boats, as the industry delivered its best performance ever in 2017.

It's easier than ever to pick a private equity manager that will yield good returns — or at least it was for last year's investors. 

The size of the performance gap between the best and worst leveraged buyout funds reached an all-time low in 2017, according to new analysis by alternative investment technology firm eFront.

At the same time, leveraged buyout returns reached new heights, with investors receiving nearly 1.5 times what they had invested during the third quarter of last year.

"2017 was another exceptional year for LBO funds," Thibaut de Laval, eFront's chief strategy and marketing officer, said in a statement. "The asset class is as attractive as ever, and is likely to continue to attract more capital, putting more pressure on managers to sustain this performance."

The broader private equity industry has been flooded with capital in recent years, as investors have become more enamored with private market investments, in part due to their strong returns. According to eFront, leveraged buyout performance has climbed steadily since the financial crisis, peaking in the third quarter of 2017 before dropping slightly in the final three months of the year.

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The benign environment that has boosted returns has also resulted in more homogenous performance among fund managers, the report showed. The technology firm compared the returns of the top 5 percent and bottom 5 percent of leveraged buyout funds, using multiples of invested capital as its measure for performance. According to eFront, the spread between these performance multiples has shrunken, falling below 1.4 in 2017 from around 1.7 in 2008.

More similarity in returns means that investors face less risk of selecting a manager that performs comparatively terribly. But it is also a sign that managers are struggling to produce out-sized returns relative to peers, according to eFront.

"Favorable market conditions lift the performance of all managers, but market conditions challenge top performers to differentiate themselves," the report stated.

Still, the technology firm remained cautiously optimistic about leveraged buyout performance going forward. "We expect this trend to continue as long as the bull market lifts net asset values," de Laval said.

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