Private Equity's Bubble Vintage May Fizzle

Private equity firms that spent hundreds of billions of dollars on acquisitions at the top of the market risk a nasty hangover.

A combination of higher interest rates and lower valuations could lead to disappointing returns for deals struck in the frothy mid-2020 to early 2022 period, after which borrowing costs rose sharply. In industry parlance, it’s shaping up to be a disappointing “vintage.”

While another bull market or interest-rate cuts could spare PE firms’ blushes, the onus is on them to deliver operational improvements rather than relying on rising valuations to generate profit for their investors. They won’t all pass the test.

Investors need to pay attention not just to what sponsors buy but when they put money to work. Some of the industry’s best returns came during or following recessions, as starting valuations were lower and there was less competition to acquire assets.

By contrast, returns from deals immediately preceding the 2008 economic crisis were relatively poor because purchase prices were stretched and holding periods increased. (This variation is why private equity investors are well advised to diversify across vintages.)

Varying Vintages