GLOBAL - The latest Global Private Equity Barometer, a twice-yearly survey of institutional investors in the asset class published by secondaries specialist Coller Capital, has painted its gloomiest picture of expectations yet.

Three-quarters of respondents - 27% of which were pension funds - said they expected portfolio-company valuations at the end of this year to be significantly lower than those reported in December's audited accounts, and distributions from their funds to deteriorate for the next 12 months; while only 25% anticipated any improvement in the exit environment.

Although the majority said they remain committed to the asset class, the 20% who said that they plan to reduce their target allocation to private equity in the coming year represented a huge increase from the 3-6% that has been the norm in previous Barometers, published regularly since 2004. Scarcity of capital is compounding the fact that collapsing public equity markets have pushed the existing proportion of private equity in portfolios too high.

"Scarce capital, slower returns and political uncertainty are the immediate future for our industry," said Jeremy Coller, CIO.

His colleague, investment principal Pinal Nicum agreed: "It's a heavy dose of realism for the private equity world."

Most worrying for general partners (GPs) is the expectation among limited partners (LPs) that about a quarter of firms will be unable to raise new funds over the next seven years - in other words, they will go out of business; and that as many as one in 10 LPs will default on their commitments within the next two years.

"We have seen a number of default situations - the secondary market, where Coller Capital specialises, is one option for GPs/LPs faced with that - but so far I am not aware of any pension fund defaulting, and they would be the last LP group that we would expect to see default," said Nicum.

"For pension funds in particular there are reputational and contractual considerations that may not affect, for example, a high net worth investor whose priority is liquidity. Having said that, it has been reported that some pension funds have contacted their GPs and asked them not to call capital now. in some ways it has also been fortunate for them that there just hasn't been a strong deal environment that would require that capital to be drawn down," he added.

However, as last year's high-profile sell-off into the secondary market by CalPERS demonstrated, pension funds were willing to reduce their GP roster: the Barometer revealed that a third of LPs plan to do so over the next two years (up from about 10% in past surveys), while a massive 82% of Europe's LPs have declined to reinvest with existing GPs over the past 12 months  - up from about 45%.

"Every LP is going to have its idea of who its top-quality names are, the ones they want to maintain long-term relationships with," said Nicum. "Over the last three or four years LPs have not faced that question as much, but now their capital is scarce, they will make choices: there is going to be a flight to perceived quality."

At the same time, the survey suggested that LPs saw this as a turning-point in their relationships with private equity managers. Some 80% think that the terms and conditions for buyout funds will become more favourable over coming months, and a quarter plan to increase the size of their private equity teams this year to exploit the opportunity.

"LPs are definitely taking this opportunity to leverage their position in this negotiation," continued Nicum. "But some genuine LP dissatisfaction has been seen anyway within the last few years - particularly with the fees charged by mega-buyout funds. Then it was very much a sellers' market, but now many GPs are having to go back to LPs because they need extra capital for portfolio companies and fund extensions, because they want to raise sidecar funds, and so on, and naturally they have to be willing to negotiate for that."

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