Performance persistence in the private equity industry is short lived. Current fund performance is positively and significantly associated with the performance of the first follow-on fund, but not with mat of the second or third follow-on funds. Moreover, even this statistically significant association between two consecutive funds' performance is not economically large. The returns of the best performing quartile portfolio drops by about half, and those of the worst performing portfolio improve substantially from one fund to the next, making the difference in performance between the top and bottom portfolios insignificant. Therefore, it appears that the performance of private equity funds converges in the long run. The commonality of relevant market conditions between two consecutive funds largely explains performance persistence, so this finding does not support the view mat general partners have proprietary skills. However, I also find that private equity capital chases past performance and that excessive fund growth, conditional on past performance, erodes performance and reduces persistence, which could occur even when fund managers have differential skills. Although mis study is not conclusive about whether general partners have unique skills, these findings have important implications for investors in the private equity industry in their investment decision making.
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