In-house management performs best for private equity – CEM Benchmarking

The cost of outsourcing private equity investment is so high for pension funds that their net returns on the asset class are generally lower than they are for their small-cap investments, according to CEM Benchmarking.

CEM principal Mike Heale, speaking at an event organised by IPE sister publication Pensioen Pro, questioned whether pension funds generated sufficient returns for the costs involved, and cited the challenge of finding a proper benchmark.

“Sometimes, pension funds take a return of 10%, or the LIBOR rate plus 4%, as a guidance, but these numbers are very bad indicators,” he said. 

Heale said CEM’s calculations had shown that pension funds that invest in private equity through funds of funds had incurred more than 5.5 percentage points in costs over the last 20 years relative to schemes that manage private equity in-house.

He also claimed that pension funds that participate in private equity as limited partners on average incurred 3.24 percentage points in additional expenses.

According to CEM, only pension funds that invest directly in private equity – as some Canadian schemes do – have managed to achieve an outperformance – of 2.4 percentage points – resulting in a net return of almost 15%.

This approach is similar to the investment policies at APG and PGGM – asset managers for the €380bn Dutch civil service scheme ABP and the €179bn healthcare pension fund PFZW, respectively – which look to manage non-listed equity in-house to avoid the cost of external managers.

CEM’s analysis also found a correlation between a scheme’s scale and returns on private equity.

It found that schemes with assets of more than $100bn (€91.1bn) achieved 16 basis points of additional returns relative to smaller pension funds.

CEM said its survey into the costs and returns of private equity was based on information collected from all of the 367 pension funds in its database.

More than 30 Dutch pension funds – representing more than two-thirds of pension assets in the Netherlands – use the services of the Canadian firm.

Their asset-management costs were 58.5 basis points on average.