The return expectations of investors in private equity funds have climbed to their most optimistic level in a decade, despite challenges from the global economic downturn and turmoil in securities markets, according to secondary market buyer Coller Capital.

Beyond the corrosive effects of inflation and slumping economies, one of the most widely shared concerns among institutional investors is market-derived imbalances in their holdings.

Declines in publicly traded securities inflate the proportion held in private assets, a phenomenon known as the denominator effect among industry participants. Some 42% of respondents to a Coller survey said the denominator effect is likely to slow their commitments to private equity over the next year or two.

Among the largest pension systems, endowments and others with assets of more than $20bn, two-thirds of respondents cited the denominator effect as a factor in slowing the pace of their commitments to private funds.

For many, the denominator effect puts them out of line with investment mandates, reducing their ability to make new bets and leading to cutbacks, WSJ Pro Private Equity reported in August.

Liquidity shortfalls are also expected to curb new commitments to private equity funds, according to 28% of the 112 Coller survey participants. Market volatility and tougher finance conditions have made it much harder for private equity firms to exit their investments, in turn raising difficulties for fund investors trying to cash out, the survey indicates.

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“In a market where portfolio company exits and [cash distributions are] slowing down, [investors] will need to find a way to generate liquidity to fund future obligations and plan future commitments,” said Lauren Din Ward, a Coller principal.

This lack of liquidity helps explain why a fifth of survey respondents said they would use the secondary market to sell private assets over the next two years, compared with 13% in a similar Coller survey a year ago. The proportion that said they plan to buy secondhand assets as well as sell private holdings dropped to 14% this year from 20% last year.

But the secondaries market has developed its own challenges for investors seeking liquidity, as disagreements over asset values between prospective buyers and sellers have stymied those efforts more often, according to several market participants. Successive quarters in which valuations hold steady could help narrow that gap and spur greater deal flow next year, they said.

Despite the challenges, institutional investors “still view private equity as an interesting place to invest relative to public equities. We see the scale-back more as a short-term allocation issue that needs to be addressed,” Din said.

Around 39% of survey respondents said private equity has grown more attractive compared with public equity because recent market volatility has opened new investment opportunities for asset managers. The proportion of investors that expect to achieve returns of greater than 16% is at its highest in 11 years, Coller said.

“We do want to keep investing through this cycle, as it’s proven out time after time after time that that’s a proven strategy,” Maurice Gordon, head of private equity at Guardian Life Insurance said during an investment conference in September.

Write to Rod James at

This article was published by The Wall Street Journal, a fellow Dow Jones Group publication

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