Research by Ludovic Phalippou of Oxford University reveals that Benelux pension funds are the third largest sponsors of performance bonuses for US private equity firms.
Phalippou, a professor of finance and author of the bestseller ‘Private Equity Laid Bare’, has analysed the size and distribution of performance-related bonuses for private equity fund managers. His study encompassed 10,780 private funds with sufficient data on invested capital and performance.
Phalippou’s research shows that private equity funds raised approximately 8,000 billion dollars in the first two decades of this century and paid out 12,800 billion dollars after fees. The carry—performance bonuses for fund managers participating in the fund—was estimated at 1,000 billion dollars. By comparison, Vanguard manages 8,000 billion dollars with an annual fee of seven billion dollars.
Blackstone Group, the world’s largest private equity investor, earned 33.6 billion dollars in carried interest, the highest among investment firms. In most jurisdictions, carry is classified as capital gains rather than income.
One hundred ‘PE-billionaires’
Bonuses have propelled Blackstone’s top executives, Stephen Schwarzman and Jonathan Gray, into multi-millionaire status. Private equity has generated a hundred «PE-billionaires» in the first two decades of this century, with a combined estimated wealth of 450 billion dollars. At the start of the 20th century, there were none. The 14 wealthiest investors collectively own half of this amount and are all Americans, according to Phalippou’s study, ‘The Trillion Dollar Bonus of Private Capital Fund Managers’.
Phalippou calculated that half of the capital invested in private equity comes from Western Europe, especially Benelux pension funds, which collectively invested over 1,300 billion dollars in private markets. However, only a quarter of the bonuses from smart investment choices with that capital end up with employees outside the United States.
Negative risk-adjusted alpha after fees
This situation appears to be exacerbating wealth inequality, with a small group of ultra-rich individuals capturing an increasing share of wealth, Phalippou explained in an interview with Investment Officer. According to him, Limited Partners (LPs) cannot justify the high bonuses with returns. «It seems the alpha of private equity is about zero,» he said. «Most studies, though not all, show a negative risk-adjusted alpha after fees.»
While Phalippou’s findings raise questions about the drivers of wealth inequality, he refrains from making value judgements. When asked if it is unreasonable for Benelux pension funds to invest in private equity, he responded: «I am not a specialist in ethics. I calculate costs and returns, and I teach on that.»
This article originally appeared in Dutch on InvestmentOfficer.nl.