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Frequently Asked Questions About Private Equity
How are private equity funds structured?
Private equity funds typically are structured as private limited partnerships. The individual managers of a fund make up the general partner. The [principle] providers of capital—the individual and institutional investors—are the limited partners.
Robert Parrino adds: General partners also invest some of their own money in order to get other people to invest.
How do investments in private equity funds differ from those in public securities?
The main difference is that private equity investments are illiquid. Limited partners in a private equity fund agree to make their capital commitments available for draw-downs by the general partner over a period of five to seven years. Depending on how skillfully the general partner invests, limited partners begin receiving cash or stock distributions a few years into the life of a partnership. They generally won’t receive their final distributions until the last years of what typically is a 10-year partnership term.
Why do institutional and wealthy individual investors generally allocate a portion of their portfolios to alternative assets such as private equity?
Private equity is considered to be a high-risk, high-return asset class that, in moderation, can enhance the overall return of a well-diversified investment portfolio. Studies also have shown that private equity returns don’t correlate closely with returns from other asset classes, such as bonds and public equities. Having an allocation to private equity therefore can help smooth out the returns of a balanced portfolio. Institutional investors generally set target allocations to private equity of anywhere from 1 percent to 25 percent, depending on their appetite for risk and their need for liquidity.
What are the minimum requirements to invest in a private equity fund?
The minimum commitments that private equity firms set for their funds generally run from $1 million to $25 million or more. Typically, they range from $5 million to $10 million.
Edited and reprinted with permission from “A Private Equity Primer,” © 2001 Asset Alternatives.
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