Small Private Equity Managers Outplay High AUM Peers

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Small Private Equity Managers Outplay High AUM Peers

The future of the energy industry in our post-Shale Revolution America will turn on a prudent and sustained application of capital -- human capital and technological capital, as well as the more traditional capital resources. 

As an industry observer and active participant, it is undeniable the positive impact of private equity in stimulating the momentum of our energy industry. 

In order to forecast, chronicle and leverage this incredible wave of change, I have enlisted my friend and private equity expert -- Joel L. Moore, Founder of Frostwood Capital – to provide guest commentary to Vallee Times to offer our followers and readers his perspective on private equity and the prudent application of capital resources in these new and exciting times.  

His first post:


Of all issues surrounding equity funds, one of the most vexing is in predicting how assets under management (AUM) affects returns over time.

Are investors more likely to see 5-year outperformance from large-cap value equity strategies by investing in smaller managers? Larger strategies? Mid-size?

A recent study conducted by eVestment reports that smaller managers continue to rake in higher returns when compared to their larger peers. Over the last 10 years, small managers have reported higher returns than medium and large strategies across four U.S. equity strategies and core plus fixed income strategies along multiple timeframes.

Study Compares Manager AUM Versus Equity, Fixed Income, Global Multi-Asset Returns

Analysts examined three strategies - U.S. equity, fixed income and global multi-asset – across one-, three-, five-, seven-year spans between 2006 and 2016. Small, medium or large categories were based on AUM percentiles (<60th percentile (small), 60 – 90th percentile (medium), >90th percentile (large).

The study summarizes the actual returns, risk and exposures that investors would experience had they invested in the average small, medium, or large surviving strategy across multiple rolling timeframes.

Small Equity Managers’ Small-Cap Value, Core Equity Returns Beat Medium, Large Counterparts

Looking at core, growth and value style segments for both large- and small-cap, analysts showed that small managers’ average returns outperformed medium and large counterparts across all timeframes in U.S. small-cap value equity and small-cap core equity (medium strategies begin to catch up at the seven-year mark for small-cap core).

Small managers’ returns also surpassed medium and large strategies in U.S. small-cap growth equity up to the seven-year mark.

For U.S. large-cap value equity, small managers surpassed large strategies in average returns after the three-year mark and forward. For example, small strategy average returns were highest 36.4% of the time in the first year, 55.6% by the third year, 71.4% by the fifth year and 60% by the seventh year when compared with medium and large manager average returns.

Medium strategies rarely prevailed across equity options. Medium managers’ average revenue dominated U.S. large-cap core equity at the three- and five-year marks, with smaller strategies outperforming its larger counterparts again at seven years.

Overall, the average medium strategy’s absolute outperformance over its counterparts expands with time.

Large managers outperformed small and medium strategies in U.S. large-cap growth equity for all timeframes after one-year. Across core, growth and value segments for both large-cap and small-cap, large strategies reported lower downside market capture ratios and less volatility more frequently.

Small Fixed Income Strategy Brings Low DMCR Through All Timeframes

In examining U.S. core, core plus and high yield fixed income strategies, small strategies showed more favorable downside market capture ratios (DMCR), at a frequency of at least 50% across every timeframe. Small managers reported the highest average revenues for U.S. core plus fixed income from year-three forward.

Small managers performed poorest in U.S. high yield fixed income (surpassed by both medium and large managers) and global multi-asset strategies (dominated by medium managers).

Medium strategies reported less volatility more often in U.S. core plus fixed income and higher IRs more frequently in high yield fixed income.

Large managers dominated average revenues through year-five for U.S. core fixed income strategies, at which point both small and medium managers surpassed large in average revenue.

Small Funds Lose to Medium, Large Managers in Global Multi-Asset Strategies

Medium and large strategies showed higher returns, lower downside market capture ratios and higher IRs than small strategies for global multi-asset strategies, with medium strategies showing higher returns and IRs than both large and small across all rolling timeframes.

Why Do Smaller Equity Funds Beat Out Larger Managers?

Keep in mind, larger managers also produce impressive numbers - early on. But with the accumulation of multi-billion-dollar assets, larger equity investment managers start to encounter several obstacles that small managers don’t have to deal with.

Fast paced equity markets depend on fast turnover – quickly selling and buying new assets. Moving fewer assets is more time efficient than moving billions in established assets, so entrepreneurial managers with fewer AUMs are often more able to match the pace that generates strong performance.

In addition, small managers may be more willing to invest in less liquid stocks with higher returns. Large AUMs can constrain a larger managers’ flexibility to exploit the higher returns of less liquid stocks.

Not to mention, the smaller crews that run smaller firms often means greater transparency across the board, more effective communication, streamlined strategies and individuals with a true interest in the fund’s success.

- Joel Moore, co-founder Frostwood Capital


These are generalizations of course and everyone should do their homework when it comes to choosing a fund that promises high returns.

For more details on the private equity market as relates to Energy investment, I invite you to pick up a copy of my new book, Giant Shifts: Energy Trends Reshaping America’s Future.

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