PE is an investment strategy that focuses on buying ownership stakes in companies that are not publicly traded — sometimes taking public companies private. PE employs long-term capital, active management, operational improvement and, in some cases, leverage to enhance returns. Since these investments are illiquid and involve multi-year value creation plans, private equity investing is designed for patient capital that can tolerate risk in exchange for potential outperformance relative to public markets.
Key Takeaways: Why Private Equity?
96% of companies globally are private
Only 4% of the world’s companies are listed on public exchanges. This means 96% of the investible universe is in private markets1.
A history of outperformance
Global PE has outperformed public markets by over 5% (500 basis points) on average over the last 25 years2.
Value creation
PE fund managers (also known as general partners or GPs) often enhance their portfolio companies’ performance during their investment (known as a holding period) by playing an active role as business owners and operators.
Expanding access
New evergreen or open-end funds are changing the PE landscape by potentially offering accredited individual investors an efficient way of achieving diversified, stable, and continuously compounding private equity exposures.
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1 Source: Pitchbook, Publicis. Data as of Dec 31 2025
2 Data as of June 30, 2025. Source: Cambridge Associates, KKR Global Macro & Asset Allocation analysis.
Understanding the Basics
What Is a Private Equity Fund?
A private equity fund is an investment vehicle that pools capital from a group of investors to buy stakes in privately held companies or to acquire public companies and take them private. The fund is managed by a professional investment manager (the general partner or GP), who is responsible for sourcing investments, working with management teams, and seeking to improve the value of portfolio companies over time. Investors (limited partners or LPs) typically commit capital for several years and are not involved in day-to-day operations. Returns are generally realized when portfolio companies exit (which means they are sold or taken public).
Exhibit 1: How a Private Equity Fund Typically Works
Common Private Equity Strategies
PE is often labeled as a single strategy, but in reality, it encompasses a diverse set of approaches, each serving distinct and valuable roles within an investment portfolio. Below are three common private equity strategies, each with unique risk and return characteristics.
| STRATEGY | INVESTMENT PROFILE | TARGET COMPANY | VALUE CREATION & RETURNS |
| Venture Capital | Minority stakes | Early-stage; high-growth; unproven business; limited or no revenue | Returns driven by major successes, making up for high failure rates |
| Growth Equity | Minority stakes in scaling businesses | Proven product-market fit; scaling quickly; pre-buyout maturity | Capital accelerates expansion, new products, M&A, and operational scaling |
| Buyout | Controlling stakes; often using leverage | Mature, established businesses | Operational improvement, cost optimization, strategic repositioning, active ownership over several years |
What Do Private Equity Firms Do To Create Value?
There are several ways PE firms can create value in the companies they back. These include:
- Strengthening the management team
- Acquiring new businesses to help improve operations and/or access new markets
- Shaping business strategy to position the company for future growth
- Developing and launching new products
- Streamlining and improving operations
- Optimizing financial strategy to enhance returns
Life Cycle of a Private Equity Fund
Traditional PE funds ask investors to commit money for the fund’s life. This is approximately 10–12 years for a traditional drawdown buyout fund, while other strategies (such as secondaries) can sometimes have a slightly shorter fund life. This lifespan consists of three timeframes:
Phase 1: Capital calls, when a manager calls upon investors to provide capital
Phase 2: The investment period, which is typically the first 5-6 years
Phase 3: The post-investment period, which is sometimes called the harvest period.
These phases are often represented by the characteristic shape of a PE fund’s return profile. Resembling the letter J, the lifecycle is also commonly known as the “J-curve”:
Trough of the “J”
LPs experience negative cash flow during much of the investment period while the manager invests their capital.
Stick of the “J”
LPs receive returns as companies exit and the fund distributes money. The fund closes once all companies are exited.
What Is the Distribution Waterfall?
In a PE investment agreement, the distribution waterfall dictates the rules and procedures for the way the fund distributes profits. The goal is to protect investors’ interests, making sure they are fully compensated before the GP receives a share of the profits, and to incentivize the GP to maximize the fund’s returns. Its name comes from the cascading nature of its constituent tiers. These are Return on Invested Capital (ROIC), Preferred Return, and Profit-Sharing (which consists of catch-up and carried interest).
Return on Invested Capital (ROIC) Phase
As long as the fund generates a return, LPs get back a minimum of their invested capital.
For example, if LPs invested $1 million, they receive $1 million as ROIC.
Preferred Return Phase
LPs are entitled to receive a fund’s full return up to the preferred return (or minimum rate of return/hurdle rate), which is calculated on an annual basis.
In this example, after receiving $1 million ROIC, LPs receive $80,000 of the $200,000 profit (which is 8% of $1 million); $120,000 of fund profit remains.
Profit Sharing Phase
Once the preferred return (minimum rate of return or hurdle rate) is reached, a share of profits is paid to the fund’s general partner as incentive compensation. This is called carried interest, or carry.
In this example, after LPs receive their 8%, GPs “catch up” and receive the next 2% of profits to maintain the typical 80/20 split (see below).
After the full catch-up is met, the remaining amount of profit is allocated between the LPs and GPs (usually 80% and 20%, respectively).
In this example, the LP receives a total of $1,160,000 (consisting of $1 million ROIC and $160,000 of investment gain) and the general partner receives $40,000.
Attributes of Private Equity Investments
Most Global Investment Opportunities Are Private
Since just 4% of global companies are public, and the remaining 96% are privately held, the vast majority of the world’s investible opportunities lie in private market companies. What’s more, the number of public companies has been shrinking over time, while opportunities in private companies are increasing both in terms of absolute numbers and revenue, offering potentially meaningful diversification benefits.
Exhibit 2: Public Markets Capture Only a Fraction of Investment Possibilities
Exhibit 3: The Center of Gravity Has Shifted to Private Markets
A History of Outperformance
PE has, over the long term, outperformed public markets. Over the past 25 years, PE has delivered 5% or ~500 bps on average more than global public equities; at other times its outperformance has been even higher. This provides investors with compensation for PE’s illiquidity – this is commonly known as the illiquidity premium.
This outperformance is true globally: PE’s internal rate of return (IRR) has significantly outpaced that of public equities across regions over the last 20 years.
Exhibit 4: Private Equity vs. Public Equity Over the Last 20 Years
Private Equity Can Have Both Higher Returns and Lower Volatility
As part of a diversified portfolio, PE has the potential to enhance total returns with lower volatility than some other asset classes. A historical analysis shows that PE offers an attractive risk-adjusted return profile, outperforming both public equities and other private market alternatives. The result is a compelling risk-return profile.
Exhibit 5: Private Indices Have an Attractive Risk Reward Profile
PE’s outperformance and lower volatility stem partly from the toolkit strong managers use to create value, which leads to better operating performance. In fact, operating performance at PE-backed companies has historically exceeded that of publicly traded companies.
Exhibit 6: Private Equity-Backed Companies Have Experienced Faster and More Stable EBITDA Growth than Public Companies
A Brief History of Private Equity
Exhibit 7: PE AUM Has Grown Meaningfully to Nearly $10.5 Trillion
Beginning in the 1970s, PE took shape as firms like KKR and others pioneered the use of leveraged buyouts (LBOs) to acquire, restructure, and improve companies. The 1980s LBO boom demonstrated the power of active ownership and financial engineering. Despite some periods of volatility, PE became firmly established as a viable institutional investment strategy.
Through the 1990s and 2000s, the industry expanded globally, fund sizes grew, and new specialties emerged, including growth equity, distressed investing, and secondaries, supported by deepening credit markets and rising institutional demand. After the global financial crisis, low interest rates, abundant private capital, and the appeal of long-term value creation accelerated PE’s growth further, ultimately transforming it into a multi-trillion-dollar asset class that now plays a central role in institutional portfolios. It is now becoming increasingly accessible to private wealth investors.
How to Invest in Private Equity
Investors can access PE through several primary channels, each with different requirements, and liquidity profiles, as well as levels of control and sophistication. These include:
Traditional Closed-End Private Equity Funds (Drawdown Funds)
The classic route for institutional investors and qualified individuals. Investors commit capital to a fund managed by a PE firm, which draws the capital down over several years as it invests in deals. Investors receive distributions as investments are exited.
Evergreen / Open-End Private Equity Funds
Provide continuous subscriptions, offer investors faster capital deployment than traditional funds, and periodic (but limited) liquidity. These vehicles are increasingly used to broaden access to private wealth investors.
Fund-of-Funds
Offer diversified exposure to multiple PE managers and strategies in a single vehicle. Suitable for investors seeking broad access without having to select individual GPs.
Co-Investments
Allow qualified investors to invest directly in specific deals alongside a PE fund, typically with lower fees. Requires more due diligence and different skillsets than fund investing.
Private Equity Secondaries
Provide access by purchasing existing PE fund interests from other investors, often at discounts or with more visibility into underlying portfolios than in primary funds.
Listed or Public Private Equity Vehicles
Publicly traded entities (such as Business Development Companies, PE firms’ own stock, listed PE funds) provide partial exposure with greater liquidity, though returns may differ from private fund structures.
In practice, the right access point depends on investor type, capital constraints, liquidity needs, and appetite for complexity.
Understanding Evergreen Private Equity Structures vs. Traditional Drawdown Funds
In addition to the traditional PE drawdown funds described above, the market also consists of newer vehicles known as evergreen funds. They have distinct characteristics for investors.
Drawdown funds raise committed capital upfront and then “call” that capital over time as investments are made. Investors do not deploy their full commitment on day one; instead, capital is drawn gradually, and returns are realized only as underlying assets are sold, typically over an approximate 10–12-year fund life. This structure suits long-term, closed-end PE strategies where value is created and harvested through distinct investment and exit cycles.
Evergreen funds, by contrast, accept capital on a continuous basis and stay open-ended with no fixed termination date. Capital is usually deployed shortly after subscription, returns may come through periodic distributions or NAV growth, and investors can often redeem at scheduled intervals (subject to liquidity limits). This model is designed to provide smoother capital deployment, more frequent liquidity, and simplified portfolio construction, but requires disciplined portfolio management because the fund must balance inflows, outflows, and ongoing investments in real time.
In short, drawdown funds are built around discrete investment vintages and long holding periods, while evergreen funds prioritize continuous access, steady deployment, and more flexible liquidity.
Drawdown and Evergreen Funds Compared
| Feature | Drawdown Fund (Closed-End) | Evergreen Fund (Open-End) |
|---|---|---|
| Capital Commitment | Investors commit capital upfront; capital is called over time as deals are executed. | Capital is typically invested immediately upon subscription. |
| Fund Life | Finite lifespan—often 7–12 years with defined investment, harvest, and wind-down periods. | Perpetual or long-term with no fixed termination date. |
| Liquidity | Illiquid until distributions; investors generally cannot redeem early. | Periodic redemption windows (subject to limits, liquidity management). |
| Cash Flow Pattern | Irregular capital calls and distributions tied to investment and exit timing. | More stable NAV-based flows; investors see smoother contribution and distribution schedules. |
| Portfolio Construction | Investors gain exposure to a specific “vintage year” and lifecycle of investments. | Exposure is continuously refreshed as the manager buys and sells positions over time. |
| Valuation | Typically valued quarterly; emphasis on long-term realized outcomes at exit. | NAV updated regularly; values reflect ongoing portfolio turnover. |
| Deployment Speed | Depends on deal pace; capital may take years to be fully called. | Capital is deployed quickly, improving cash efficiency for investors. |
| Return Profile | J-curve effect is common—early negative returns before exits drive performance. | Reduced or absent J-curve due to ongoing deployment and immediate exposure. |
| Investor Base Suitability | Institutional investors comfortable with illiquidity and multi-year commitments. | Broader investor universe, including private wealth, given more flexible access and redemption. |
| Manager Requirements | Focus on executing a defined investment program and eventual exit strategy. | Requires continuous portfolio management, liquidity planning, and capital flow balancing. |
How to Evaluate Private Equity Funds
Multiple on Invested Capital (MOIC) and Internal Rate of Return (IRR) are two common metrics used to measure the performance of private equity funds. Both are necessarily estimates until capital is returned to investors. Neither should be viewed in isolation and they should both be evaluated within the context of the other (as well as fees and expenses).
Multiple On Invested Capital (MOIC)
MOIC is a metric used to describe the value or performance of a private equity investment relative to its initial cost. For instance, if you invested $1 million and total proceeds were $2 million, that would be a 2.0x MOIC.
The key points are that MOIC:
- Is the total return on a fund as a multiple of all money invested
- Measures how much value a fund has created
- Does not account for the time value of money
Internal Rate of Return (IRR)
IRR is a performance measure that incorporates the time value of money.
The key points are that IRR:
- Is the annual growth rate of an investment, accounting for cash flows over time
- Calculates the rate that makes the present value of future cash inflows equal to the initial cash outlay for the investment
Understanding Private Equity Fund Fees
PE firms charge investors two types of fees: a management fee, which is typically between 1% and 2% of committed capital or net asset value (NAV), to cover the fund’s operational costs; and carried interest, a percentage of profits (usually around 20%, though it varies according to a few different factors) paid to the manager to incentivize performance.
Frequently Asked Questions
What do private equity firms do?
They raise capital from investors to acquire, improve, and eventually sell companies for a return. Their value creation typically comes from operational improvements, strategic repositioning, and financial structuring.
What is private equity?
PE is an asset class in which firms invest in privately held companies (or take public companies private) with the goal of generating long-term returns. Investments are typically illiquid and have multi-year holding periods.
What is carry (carried interest)?
Carry is the share of profits that the private equity firm’s investment professionals earn after returning capital and a preferred return to investors. It aligns incentives by rewarding strong fund performance.
What is dry powder?
Dry powder refers to committed but uninvested capital that PE firms can deploy into new deals. It signals both fundraising strength and an obligation to put capital to work.
What is middle-market private equity?
Middle-market private equity focuses on acquiring or investing in mid-sized companies, typically valued between a few hundred million and a few billion dollars. These businesses often provide more room for operational improvement than large-cap buyouts.
How does private equity differ from hedge funds?
Private equity invests in private companies with multi-year holding periods and hands-on operational involvement. Hedge funds trade liquid securities and focus on shorter-term, market-driven returns.
How does private equity differ from public equity?
Public equity involves ownership in publicly traded companies with daily liquidity. PE involves privately negotiated ownership stakes with limited liquidity and longer investment horizons.
What is a fund of private equity funds?
A fund of funds is an investment vehicle that invests in a portfolio of private equity funds rather than directly into companies. They provide diversification across managers, strategies, and vintages but add an extra layer of fees.
What is a leveraged buyout (LBO)?
An LBO is the acquisition of a company using debt alongside equity. The company’s cash flows service the debt, magnifying potential returns.
What is due diligence in private equity?
It is the detailed investigation of a target company's financials, operations, markets, and risks before investment. The goal is to validate assumptions and uncover issues that could affect returns.
What is a portfolio company?
A portfolio company is a business owned by a fund. The firm works with management to drive performance improvements during the investment period.
What is a preferred return (or hurdle rate)?
This is the minimum annual return that limited partners (LPs) must receive before the general partner (GP) earns carry. It ensures investors are compensated before profit-sharing begins.
What is an exit strategy in private equity?
It’s the planned path for selling an investment, typically through a sale to a strategic buyer, another financial sponsor, or an IPO. Exits crystallize gains and return capital to investors.
How are companies valued?
Valuation estimates what a company is worth based on financial metrics, market comparables, and future cash flow expectations. It guides how much a firm is willing to pay in a transaction.
Explore Other Private Market Asset Classes
Dig deeper into the three other private market asset classes to learn what they are, why they matter, and how they may fit within existing portfolios.