Updated with a correction.
Fundraising woes and changing investor preferences are diminishing the influence of private equity fund-of-funds managers.
No longer can a fund-of-funds manager's decision whether to invest in a fund make or break that fund.
In fact, some insiders estimate that 20% of current fund-of-funds managers might not survive because of fundraising problems. According to Preqin, an alternative investment research firm in London, funds of funds accounted for a mere $10.7 billion of the $225 billion raised worldwide by private equity funds in 2010, the lowest total since 2004. In 2009, funds of funds accounted for $27.4 billion.
“Commitments by funds of funds typically represent about 15% of total private equity commitments,” said Thomas Lynch, a managing director in the New York office of alternative investment consulting firm, Cliffwater LLC.
Funds of funds' share of all commitments most likely held steady in 2009 and 2010 because they still had capital to invest, Mr. Lynch said, but he expects the percentage to decline as a result of their fundraising challenges.
According to Preqin, the number of private equity funds of funds and the amount of capital amassed by them has been falling steadily since 2007, when $58.1 billion was raised in 172 funds. Of the 15 largest private equity funds of funds, only one — SL Capital Partners' €700 million ($962 million) European Strategic Partners 2008 — managed to meet its fundraising goal and closed. Seven were abandoned in 2010 vs. five in 2009.
Another problem is returns. “Funds of funds are coming to account for their performance and at the end of the day, that's a good thing,” said Robert Ackerman, managing director and founder of Palo Alto, Calif.-based venture capital firm Allegis Capital.
Private equity funds of funds returned 11.6% for the year ended June 30, according to Preqin. The overall private equity internal rate of return for the year ended June 30 was 19.18%, according to the State Street Private Equity Index.
Private equity executives have noticed the changes. For example, EnCap Investments LP on Feb. 1 closed its eighth North American oil and gas private equity fund, the $3.5 billion EnCap Energy Capital Fund VIII LP. The fund had a similar number of fund-of-funds investors as EnCap's previous offerings, but the investors were different, said Hallie H. Kim, co-head of investor relations and fundraising for the Houston- and Dallas-based firm.
“Some of the funds of funds were bought or stopped fund-of-funds investment activities,” Ms. Kim said. Others simply chose not to raise another fund, she added, declining to name firms.
Eighteen months ago, BlackRock Inc., New York, stopped raising more capital for a planned $1 billion private equity fund of funds, closing with $790 million in commitments. The reason cited: a difficult fundraising environment.