NEPC’s Kristin Reynolds was recently featured in Buyouts, offering her perspective on the challenges institutional investors face with benchmarking in private markets. Visit Buyouts’ website to read the full article and explore how evolving performance metrics are reshaping investment conversations.
The standard mode used to communicate risk-return goals is being re-examined given new frustrations with long-held tools.
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Consulting firm leader Kristin Reynolds puts it like this: if you’re looking for the perfect benchmark for gauging risk and returns in the private markets, it’s not out there.
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Reynolds, a partner and practice group director at NEPC, says that across the spectrum of institutions there’s an eagerness to use benchmarking to figure out the opportunity cost of leaving money in private market assets instead of public equivalents. But she adds that LPs aren’t always getting a clear enough picture of that with current benchmarks.
Institutional investor staff, boards and consultants have been left with uncomfortable conversations about why things look so different than selected benchmarks. And, according to Reynolds, that’s led to a shift in focus to indexes that weigh portfolio performance against that of all the managers a fund could have invested in.
“That has been better for most organizations that are trying to understand how PE moves relative to other privates, ” she says. “But the downfall of that is really you might be building a portfolio that’s heavily venture-weighted or has other specific traits. Meanwhile, these indexes are painting with a very broad brush.”
Outside of PE, private market benchmarking doesn’t get any easier, Reynolds says. “In fact, for an asset class like private credit, it can be harder. That’s because there’s less observations. Once you take an index of the big providers and start slicing and dicing them, you end up with 15 different managers in an index, and not enough for statistical significance.”
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Reynolds adds that the manipulation of IRR – sometimes demonstrated to LP boards as measures of success – can be done by timing when a manager calls capital and how much debt they’re using in the fund to smooth out the capital call process.
“When people really focused on how managers have control over this measurement, they started thinking more about metrics such as total value to paid-in (TVPI) and now distributed to paid-in (DPI), ” she says. “The impact of a focus on DPI is that an LP may not focus on a manager’s second or third fund if distributions from the last fund are still really low.”
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Reynolds says when there’s a movement that profound in the benchmarks for an asset class, it kick-starts conversations between an LP’s staff and board about whether there should be a scaling back of pacing. And when an investment team’s performance is often measured by its record of overdelivering compared to benchmarks, friction is always a possibility.