Private Equity in the Doldrums and Out of Favor With Some Institutional Investors

For years, private equity funds attracted institutional investors — pension funds, university endowments, insurance companies, sovereign wealth funds – that could afford to tie up funds for long periods of time with a promise that returns would substantially outperform the stock market. And, during the go-go years between 1995 and 2000, the median fund in a smaller PE industry did outpace a rising stock market. For a few years following the 2000-2001 bursting of the tech bubble and the collapse of publicly traded stocks, the median PE fund beat the public equity markets.

Since 2006, however, private equity returns have largely tracked the S&P 500 as measured by the public market equivalent — the metric preferred by serious financial analysts over the flawed internal rate of return (IRR) measure preferred by industry insiders. Now a $7 trillion industry, most PE funds can’t beat the stock market. Looking back in 2024 to the previous five years, the S&P 500 outperformed the median private equity fund even when using the flawed IRR to measure fund performance. The S&P 500 continued to outpace private market returns in 2024and 2025. Private markets research firm MSCI estimates that between 2022 and the third quarter of 2025, an index of US private equity funds saw annualized returns of 5.8 percent, compared to 11.6 percent for the S&P 500.

PE funds have struggled mightily since mid-2022. In 2022, the S&P 500 fell by nearly 20 percent. PE firms failed to mark the value of their portfolio companies to market. Instead, the general partner (a committee of principals of the PE firm, not an individual that manages the fund) used its own guesstimates of what the companies in its portfolio were worth. Fund managers declared that their portfolio companies had largely escaped the effects of the market downturn. As a result, PE portfolio companies are overvalued, and a persistent gap between buyers and PE sellers has made it difficult for PE funds to exit their investments, either through a sale or via a stock market IPO.

Rising interest rates have also stymied PE funds’ exits. The low interest rate environment of the dozen years from 2010 to 2021 facilitated the acquisition of companies using high levels of debt. But the dramatic 5.25 percent increase in interest rates between March 2022 and July 2023, as the Federal Reserve System raised rates to bring down pandemic-induced inflation, made exiting PE investments in portfolio companies challenging.

In 2025 the gap between the value that buyers and sellers place on companies in PE fund portfolios and higher-for-longer interest rates on the debt that finances acquisitions remain significant challenges for the PE industry selling its aging companies. .

PE’s Persistent Exits Problem

Institutional investors in private equity — pension funds, university endowments, life insurance companies, sovereign wealth funds — make money when the private equity funds they invest in buy companies, increase the acquired company’s profits over a few years, and then successfully sell the company for more than they paid. A few PE-owned companies go public through an IPO on a stock market. Traditionally, PE funds have had a life span of 10 years, and have exited all of their investments by the tenth year after they are launched. In recent years, it has taken 12 to 15 years for many funds to sell all their companies and return the cash to investors. Exits are the engine that drive fundraising, deal making, and returns to investors. Sales of portfolio companies provide investors with cash to meet their obligations — pension liabilities or student scholarships, for example.

The Wall Street Journal reports that in 2022 and 2023, the number of exits across all PE and VC strategies declined to 658 and 323, respectively, compared with their 2021 high of 1,210. Exits improved in 2024 to 516 but remained depressed compared not only to the peak year of 2021 but to the average of 647 exits a year over the 11 years from 2010 to 2020. This is even worse than it appears, since the numbers of funds and portfolio companies are larger than they were in the past.

In 2025, exits declined to 321 (as of December 22). The value of exits, according to the Wall Street Journal, peaked at $527.8 billion in 2021, then fell to $224.4 billion in 2022 and $100.8 billion in 2023 before recovering somewhat to $120.4 billion in 2024 and $243.9 billion in 2025 (again as of December 22). The increase in exit value in 2025 compared with 2024, despite the decrease in the number of sales and IPOs of portfolio companies, is due to a number of mega exits including Medline’s $6.26 billion IPO. Despite an improvement in exit activity since 2023, The New York Times reports that PE funds are sitting on an inventory of 31,000 companies valued by the funds at $3.7 trillion.

The slowdown in exits has triggered a number of problems for PE funds and their investors. These include a rise in the number of zombie funds, liquidity problems for PE fund investors, and sporadic fundraising problems for certain PE funds.

“Zombie Funds”

Zombie funds are funds that are 10 or more years old and still have not liquidated all of their portfolio companies and distributed the proceeds to their investors. The PE firm continues to collect management fees from the investors (referred to as limited partners or LPs), but there is little chance the fund will be able to sell or IPO many of the remaining companies at the price they value them at in investor reports.  According to TREO Asset Management, a firm that helps LPs manage and dispose of aging assets, zombie funds historically have been able to return 53 cents on the dollar to LPs for assets remaining in such funds. Currently, these funds return 44 cents on the dollar to investors.

The volume of assets under management (AUM) in zombie funds has grown explosively in recent years. For funds located in North America, primarily the US, AUM in zombie funds increased from $372 billion in 2021 to a record $441 billion in 2024. The bad news for LPs is that most of the unsold assets in zombie funds are in large funds ($1 billion to $5 billion at inception) which are likely managed by the most established and well-known general partners (GPs). Zombie funds launched in 2014 have a worryingly 77 percent of capital raised by the funds still unrealized in 2024 (year 10).

Low Distributions Squeeze PE Investors

The historically low levels of exits in the last few years have meant less cash paid out to investors. The ratio of cash distributions to paid-in capital has become the top of mind metric for PE investors: It can’t be gamed and it measures actual cash returned to investors as a percentage of cash paid in to the PE fund by investors. Even as exits improved somewhat in 2024, distributions to investors hit a low.

Distributions below their historical levels and below the expectations of investors create two problems. Institutional investors such as pension funds and university endowments rely on the return of cash through these distributions in part to fund expenditures on pension liabilities or to fund scholarships or research. The problem is especially acute for pension funds that need liquidity to pay out pension liabilities. A small circle of investment consultants steered US pension funds toward investments in private markets — private equity, real estate and hedge funds — as they encouraged pension funds to chase higher returns. The share of total investments held in these alternatives increased from 10 percent in 2000 to about 30 percent in 2025.

More generally, the slowdown in exits and cash distributions to PE investors has meant that institutional investors have less money available to invest in future PE funds. Additionally, the slowdown in exits means that the share of PE investments in institutions’ overall investments has increased, often above the institution’s target PE allocation (the so-called denominator effect) which also reduces incentives for future contributions to PE fundraising.

The failure to return the usual amount of cash to investors — the so-called liquidity crunch — has created problems for both PE investors and PE firms.

Financial Engineering to the Rescue

As successful exits have become increasingly difficult for aging PE funds, the funds have turned to other means to raise cash to return to their investors and ease the liquidity crunch.

Dividend recapitalizations, a controversial means of returning cash to LPs in ordinary times, were up in 2025. In a dividend recapitalization, PE funds have their portfolio companies borrow money at high interest rates to make distributions to the funds’ shareholders. The shareholders encompass the general partner (GP) — a committee made up of principals in the PE firm that make all decisions for the fund — and the limited partner (LP) investors in the fund. Bloomberg estimates that dividend recapitalization loans reached a total of $28.7 billion in November 2025, on pace to exceed the record of $28.8 billion set in 2021. PE firm Thoma Bravo, for example, raised $1 billion in high-yield debt on Ping Identity Holding Corp in October 2025 and $750 million on Darktrace in November to fund payouts to shareholders.

Another workaround PE firms are using to return cash to their investors is to sell companies in one of the funds they sponsor to another fund — a so-called continuation vehicle — they also sponsor. In view of the backlog of 31,000 unsold companies noted above, this has become an increasingly popular exit strategy for PE funds. A fifth of all private equity sales in 2025 are estimated to have involved the PE firm raising money from new investors to acquire companies from one of its aging funds. These transactions — selling assets already owned by the PE firm to a new continuation fund also owned by the PE firm — provide a way for PE firms to return cash to investors.

Investors in the original fund have the option of cashing out at this point, although they may receive less than the fair market value of the company. The cash returned to the limited partner investors will be reduced by the carried interest paid to the GP and by any fees related to the transaction. Or they can keep their investment in the company as it moves to the new fund. They will then be obligated to continue paying management fees to the GP for managing this asset. This is a sensible choice if, indeed, the company that is moved to the continuation vehicle is performing well and its sale price is likely to increase if it is held for a longer period.

But the value of the company and its expected sale price are not set in a market. Instead, they are  guesstimates by the general partner — a committee as described earlier of principals and professionals of the PE firm that represents the firm’s interests. The GP is on both sides of the negotiation. As the GP of the original fund, it should try to get the highest price for the company. But as the GP of the new fund, it should try to buy the company cheaply so there is room for it to appreciate in value. Limited partner investors in the funds cannot be sure the company’s sale price reflects its true value. Nevertheless, most LPs roll over their investment in the company to the new fund.

The Abu Dhabi sovereign wealth fund is suing private equity firm EMG for breach of fiduciary duty to the original fund when selling its assets to a continuation vehicle for not looking out for the interests of limited partners in the original fund.

PE firms sold assets to themselves at a rapid rate in 2025. The value of assets in continuation vehicles has increased from about $35 billion in 2019 to a total that was expected to reach $100 billion or more by the end of 2025. Some investors — the Alaska Permanent Fund Corporation and the Teacher Retirement System of Texas among them — are concerned that this is just delaying the day of reckoning. They fear that these deals may lead to unrealistic valuations for the companies and unrealistic projections of what the companies will ultimately be sold for. Their concerns about these circular deals have intensified following bankruptcies of companies such as Wheel Pro and United Site Services after their sales to continuation vehicles.

Net Asset Value loans (NAV), another way to return liquidity to investors, are typically high-yield loans that a fund’s general partner takes out in order to return liquidity to the fund’s LP investors. The fund’s GP borrows against the (estimated) value of all the unsold companies remaining in the fund. Unlike a dividend recapitalization – which is debt taken on by a single portfolio company and is not a liability of the fund – NAV loans are a liability of the fund and the companies in its portfolio.

NAV loans have increased in popularity since the liquidity crunch took hold. Thevolume of NAV loans reached $100 billion in 2024. NAV lending experienced a 30 percent compound annual growth rate from 2019 to 2023.

GPs use NAV loans in part to increase the ratio of distributions of cash to investors to cash paid in by investors (DPI), now a favorite metric used to evaluate fund performance. The distributions also increase the value of the fund’s IRR to the benefit of the general partner and the PE firm. The GPs expect their LP investors to use the cash returned to them to invest in a subsequent fund managed by the current fund’s GP. While the distributions are welcomed by LPs that face liquidity constraints, many LPs without pressing liquidity needs have questioned the wisdom of such financial engineering. Provisions in some NAV loans that allow the lender to recall the proceeds that the PE fund has paid out are especially troubling. Many LPs park these funds in an account; they do not reinvest the funds or spend them in any way but hold them in case they need to repay the lender. So while the cash paid out to investors shows up as distributions on the books of the PE fund, they do not count as distributions in the accounts of the LPs that receive the money, and they are not available for reinvestment in a subsequent fund until the NAV loan has been repaid.

Recent efforts to increase DPI do not appear to have had a major effect on cash in the hands of PE investors. The DPI for the median fund launched in 2014 was 33 percent five years later. For funds launched in 2016, it was 47 percent. However, for funds launched in 2019, the DPI for the median fund in 2024 (five years after launch) had fallen to 22 percent.

PE Fundraising in 2025

As we noted above, the record high number of aging unsold portfolio companies has limited the flow of cash from PE (and VC) funds back to the funds’ investors to be used in part to invest in future funds. In VC, and across PE strategies, this was largely due to the continuing weakness in exits that has constrained liquidity. Without receiving distributions from sales of portfolio companies, it has been difficult for LPs to commit money to new PE funds. Mediocre returns are leading institutional investors to rein in their allocations to PE.

The opaqueness of private equity and the lack of standard definitions and public reporting means that various data analytics firms will have different definitions of what is counted as a PE fund. For example, does it include growth investing (providing equity to a company without taking it over)? And the lack of reporting requirements means that data in various data sets come from different sources. As a result, reports on the extent of fundraising provide different absolute numbers. While actual numbers may not always match, the direction of fundraising (increasing or declining over time) is useful information. If various data sources report different absolute figures, but the numbers are of similar orders of magnitude and the direction of change is the same, we can have confidence that PE funds are successfully raising capital or that fundraising has been a bust.

According to Prequin, global private equity fundraising across all strategies and including venture capital declined in 2022, 2023, and 2024, with the 2024 results driven by the large decline in VC fundraising. Hopes for a fundraising recovery in 2025 were disappointed as the sluggishness continued. Globally, the sharp fall in annual private equity fundraising since 2019 has continued. Across all strategies, PE is expected to raise less than $600 billion in 2025 ($502.1 billion raised through Q3 2025) compared with $734.5 billion in 2019, a peak of $840.9 billion in 2023, and $664.8 billion in 2024. Globally, private equity buyout funds, which account for half of all PE and VC fundraising, raised just $190.2 billion in the first half of 2025. In the US, fundraising by buyout funds is down sharply in 2025 compared with 2024.

While the absolute numbers are different, Pitchbook (another private equity data analytics firm) also finds that fundraising is down. Its data show that US buyout funds raised $214 billion through the third quarter of 2025 and were on track to substantially underperform the $360 billion these funds raised in 2024.

Private equity’s difficulties fund raising for buyout funds has led them to develop another private market that they can recruit institutional investors to invest in — private credit funds. These are funds sponsored by PE firms that lend money to finance PE buyouts as well as to companies, PE owned or publicly traded, that do not qualify for bank loans or other public credit. The volume of private credit has tripled in the last 10 years. A study by researchers at the University of California at Irvine and Johns Hopkins University found that this market also has unliquidated inventory and investor returns issues.

Outlook for 2026

Top executives at PE firms Blackstone and Ares have expressed optimism that improvements in the IPO market in 2025 will accelerate in 2026, and — together with an anticipated increase in M&A deals — will accelerate a decline in the backlog of unsold companies acquired 10 or more years ago, mitigating the liquidity crunch and facilitating improvements in fundraising. In contrast, the Chair of Global Private Equity Practice at Bain & Co. commented, “We’re talking about a 5+ year problem as the GFC [Great Financial Crisis of 2008] was, in order to process all of this liquidity. This is not going to go away in 2025 or 2026. It’s going to be continued pressure on the institutional LPs for liquidity over the course of the next several years.”

If interest rates decline and the US continues to avoid a slowdown, as is likely as long as the AI bubble doesn’t pop, 2026 will be a better year for PE funds than 2025 was. But digging out from under the overhang of aging, overvalued portfolio companies will be a multi-year process. Fundraising is likely to continue to underperform GP expectations, and the need for new sources of capital, especially for PE buyout funds, is likely to remain acute. Finding institutional investors to pour money into aging funds with highly leveraged and overvalued portfolio companies in a higher-for-longer interest rate environment has been difficult. PE firms are looking to your retirement savings — your 401(k) — to bail them out.

This first ran on CEPR.

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