Private Equity Fund Raising Coming Back Slowly

Hedge fund asset levels may have recovered to record levels. Too bad the same can’t be said about private equity, which is having much more trouble raising money from investors.

Granted, PE assets are counted differently, and they are locked up for much longer periods of time than hedge fund commitments. However, according to a recent report from Preqin — the most comprehensive scorekeeper of this data — fundraising remains at its slowest pace since 2003. It calculated that 92 private equity funds worldwide reached a final close in the first quarter, raising a total of $42.3 billion. This is slightly down from $47.1 billion pulled in during the fourth quarter of 2010.

Now, Preqin does warn that this is early data, and final first-quarter numbers could show a slight increase from the prior three-month period. Nonetheless, it still asserts that fundraising remains “extremely challenging,” and is occurring at a fraction of the rate that the industry was seeing in the boom years from 2006through 2008.

However, the fund-raising environment may not be as bad as it initially seems. For one thing, 110 funds held an interim close during the first quarter, raising $26.3 billion as they try to meet their ultimate goals, Preqin points out. Keep in mind, though, that it now takes a private equity fund about two years to fully raise its hoped-for sum. “Investors are more cautious,” says Tim Friedman of Preqin, noting that PE investors are typically committed for10 to 12 years whereas hedge fund investors can generally get out of their commitment within one year. “It is a more difficult long-term decision.”

The situation is worse for private equity real estate funds, as 17 partnerships reached a final close in the first quarter, raising a total of $5.8 billion. This is down from the $6.5 billion raised in the fourth quarter of 2010. Fundraising for this asset class is now a fraction of what it was from 2006 through 2008, when quarterly totals generally exceeded $30 billion.

Even so, the environment for private equity in general does seem to be improving. For example, Preqin currently counts 1,649 funds on the road seeking $663 billion worldwide, the highest number of managers in the market at one time. And the first quarter saw a continuation of the rise in the number and value of funds being raised, the firm notes.

Meanwhile, back in December 2010, a survey of 100 investors found that one-third of the limited partnerships were below their target allocation while 13 percent exceeded their targets. In addition, 54 percent expected to invest more in 2011 than 2010, about one-third anticipated they would commit about the same level and only 15 percent said they would invest less.

In addition, in the first quarter exits from deals equaled the record levels set in the fourth quarter of 2010. “Exits will drive fund raising by the end of the year,” Friedman says.

However, the number of new deals fell 8 percent, to 623 PE-backed deals, while the total value of the deals declined by 26 percent, to $49.9 billion. Preqin does point out that small and medium-sized deal flow remains strong but that the mega deals still have not come back.

What’s more, there is a general feeling that deal activity in general will pick up significantly given the near record amount of dry powder held by PE funds, low interest rates and the urge among companies in general to do deals again. Indeed, as I recently pointed out, hedge fund ThirdPoint is bracing for a big increase in deals, in part, due to what manager Dan Loeb calls “highly incentivized LBO firms.”

One thing you can count on: The top of the cycle will once again be defined by a rash of mega-deals in which the buyer overpays and new money rushing into outsized PE funds.