Written by James Richards | Edited by Peter Franks

What exactly is going on with private equity? A slew of recent data has pointed to something untoward taking place in a sector that had been the flagship asset class of late-modern capitalism. In 2023 and 2024, buyout-backed exits - the chief means by which private equity firms realise value - weakened sharply. Global exit value also hit multi-year lows, with fewer transactions and smaller deal sizes than in the recent past.

According to Bain & Company’s industry reporting, sellers are bringing only the highest-quality assets to market, while much of the rest remains unsold and illiquid. This has left buyout funds holding a backlog of nearly 29,000 portfolio companies with roughly $3.6 trillion in unrealised value - a stock that would take years to clear at the current pace of exits.

As a consequence, investors are not receiving cash back at previous rates. Distributions to paid-in capital (the cash actually remitted to investors) fell to just 11 per cent of net asset value in 2024, the lowest level industry-wide in more than a decade. Limited partners are increasingly finding that capital contributions outstrip distributions, effectively leaving them net cash-flow negative on private equity commitments.

These pressures have begun to show up elsewhere. Fundraising has slowed as limited partners become more selective. According to McKinsey, traditional commingled private equity fundraising fell sharply in 2024, even as public equity markets posted solid returns. The contrast has sharpened investor scrutiny of private equity’s core promise: stable performance, diversification and superior long-term returns.

Put together, these patterns suggest something more structural than a simple cyclical lull. Deal activity and exits have struggled to regain momentum. Distributions, the lifeblood of realised returns, have slowed. Meanwhile, unrealised assets continue to accumulate on fund balance sheets rather than changing hands at market prices. This is not a liquidity crisis in the dramatic sense - where markets seize up and participants scramble for cash - but a clearance problem, where capital is present but cannot be realised on terms that satisfy both sellers and buyers.

In most investing environments, value is tested through transactions. A business sells, and a price discovery event occurs. In today’s private equity market, that mechanism has weakened. Valuations rely increasingly on periodic appraisals rather than observable market outcomes, and exit volumes lag far behind asset accumulation. The result is a widening gap between reported performance and realised returns.

It is this gap between what appears valuable on paper and what can actually be sold that defines the current stress in private equity. The industry remains large, well capitalised and institutionally embedded. Yet its defining test - converting ownership into cash through exits - is not being met at the scale or cadence investors have grown accustomed to.

The Flywheel Breaks Down

At its simplest, private equity relies on a repeatable cycle. Capital is raised from limited partners, deployed into portfolio companies, and returned through exits, allowing distributions to be made and new funds to be raised. For decades, this flywheel worked well enough to sustain confidence in the model. Today, the breakdown is concentrated in a single place. The exit stage, on which everything else depends, has become the binding constraint.

The weakness is visible across all major exit routes. Initial public offerings, once a dependable path for larger or higher-quality assets, remain scarce. Public markets have reopened selectively, but not in a way that suits most private-equity-owned businesses, which tend to be smaller, more leveraged and less aligned with current investor preferences. IPOs now account for only a marginal share of exit activity.

Trade sales to strategic buyers have also disappointed. Corporate acquirers, facing higher financing costs and uncertainty around growth and margins, have become more selective. Rather than paying premium multiples for leveraged businesses, many are prioritising balance-sheet resilience and internal investment. Only the strongest assets attract sustained interest, leaving much of the private equity universe effectively stranded.

Sponsor-to-sponsor transactions continue, but their role has changed. In principle, a secondary buyout should transfer risk at a market-clearing price. In practice, many such deals now take place within a narrow circle of capital, often supported by optimistic assumptions about future refinancing or operational improvement. Increasingly, they resemble repositioning exercises rather than genuine exits, extending holding periods without resolving valuation risk.

The cumulative effect is visible in holding periods. Assets are staying in private equity portfolios for longer than the five-to-seven-year timelines that once underpinned fund models. Longer holds are not inherently problematic, but they place pressure on distribution schedules and complicate capital planning for investors who expected a steadier return of cash.

When exits stall, the flywheel does not simply slow. It changes character. Fees continue to accrue. Portfolio companies remain on the books, periodically revalued but rarely sold. Over time, private equity begins to resemble a collection of long-term holding vehicles rather than a system designed for disciplined turnover. Without a functioning path to realisation, the industry’s defining promise becomes harder to verify.

Returns vs Distributions

As exit activity has slowed, limited partners have shifted their focus away from headline performance metrics and toward something more basic: cash. The question increasingly asked is not how attractive returns look on paper, but how much money has actually been returned relative to what was committed.

For years, private equity relied on since-inception internal rate of return as its primary measure of success. In theory, IRR captures annualised performance over time. In practice, it is highly sensitive to the timing of cash flows and can be flattered by early gains, delayed capital calls or short measured holding periods that do not reflect the investor’s true experience. Academic researchers have long argued that IRR is not a rate of return in any meaningful economic sense, but a mathematical artefact that can diverge sharply from realised outcomes. As distributions have slowed, these weaknesses have become harder to ignore.

Hence, analysts have turned to another measure, distributions to paid-in capital, or DPI, that expresses the cumulative cash returned to investors relative to what they committed. Unlike IRR, DPI cannot be massaged through timing conventions. It answers a simple question: ‘how much money has come back’. By that measure, recent vintages have underperformed. Many funds launched in the late 2010s are only now approaching breakeven, with some still short of returning investors’ original capital.

One reason for the divergence between IRR and DPI lies in the growing use of capital-call management techniques. Subscription lines of credit allow funds to delay calling capital, instead using short-term borrowing to finance acquisitions. While this can smooth cash management, it also shortens the measured holding period and mechanically boosts IRR without improving underlying economics. The investor’s cash may sit idle, earning little, while the fund borrows at higher rates to preserve the appearance of strong performance.

Bridge loans and delayed capital calls compound the effect. By postponing the moment when investor capital is formally deployed, funds can report attractive early returns even as cash remains unproductive from the investor’s perspective. As long as exits were frequent, these distortions attracted limited scrutiny. Today, when cash is scarce, the gap between reported performance and realised outcomes has moved to the centre of the debate.

DPI has therefore risen in prominence not because it is sophisticated, but because it reflects reality more faithfully than alternatives. Cash returned, not paper appreciation, is the real test of whether value has been created or merely deferred.

Volatility Laundering and the Illusion of Stability

One reason the strain in private equity has taken so long to register is that it is partially concealed by valuation practices. Unlike public equities, private equity holdings are not marked to market. They are appraised periodically using models that rely on assumptions about comparable companies, discount rates and projected cash flows. These valuations may be reviewed, but they are rarely tested through transactions.

The result is a performance profile that appears reassuringly smooth. While public markets swing in response to earnings, interest rates or macroeconomic shocks, private equity returns tend to rise steadily. For many institutional investors, this apparent stability has been attractive, particularly in regulatory or governance environments that penalise visible volatility.

Cliff Asness, Co-Founder of AQR Capital Management, has described this phenomenon as “volatility laundering”. Risk has not disappeared, it has merely been concealed. When assets are not traded, their prices do not move, but that does not mean their underlying value is unchanged. The volatility remains latent, waiting for an exit event to reveal it.

As exits slow, the consequences of this smoothing become more serious. In an active market, appraisals are periodically anchored by real sales. In a congested market, valuations drift further from what buyers might actually pay. Secondary market transactions provide a partial glimpse of this gap, with discounts to stated net asset value suggesting that liquidity-seeking investors assign lower values than those implied by fund reports.

This does not imply widespread dishonesty. Appraisals are constrained by convention and methodology. But the system favours continuity over confrontation. Marks adjust slowly, assumptions change incrementally, and sharp write-downs are rare unless failure is unavoidable. Stability achieved by concealment is not stability at all. It is uncertainty deferred.

Financial Engineering Vs Genuine Exits

As traditional exit routes have slowed, private equity has adapted. Rather than selling assets outright, firms have expanded a set of financial techniques designed to generate liquidity and sustain momentum in the absence of clean exits. Hence, the tools known as continuation funds have grown rapidly. In these transactions, assets are transferred from one fund to another managed by the same sponsor, often with secondary investors providing capital. For the original fund, this can generate a distribution and the appearance of an exit. For the manager, it extends the fee-earning life of the asset.

While continuation funds can serve legitimate purposes, their rapid growth reflects a deeper problem: PE firms are struggling to sell assets to external buyers at acceptable prices. Dividend recapitalisations and NAV loans (fund-level borrowings secured against portfolio value) represent similar adaptations. By increasing leverage at either the portfolio-company or fund level, managers can support distributions without selling businesses. These tools provide flexibility, but they also defer the moment when valuations are tested against external demand.

Taken together, these mechanisms generate liquidity without resolution. They smooth outcomes and buy time, but they do not establish market-clearing prices. In a healthy market, exits serve as moments of truth. When exits are replaced by internal transfers and balance-sheet manoeuvres, that disciplining function weakens.

Capital Congestion and Investor Behaviour

The effects of stalled exits propagate beyond private equity firms themselves. Limited partners experience congestion as delayed cash flows, tighter budget constraints and growing uncertainty about when commitments will turn into spendable resources.

Private equity was long valued as a source of long-term returns that complemented public markets. That logic depended on a predictable rhythm of distributions. As that rhythm breaks down, investors become more cautious. Fundraising takes longer. Performance explanations face greater scrutiny. Reputational pressure increases, particularly for institutions that must justify opaque assets to boards, regulators or beneficiaries.

Political scrutiny compounds these pressures. As private equity ownership expands into socially sensitive sectors, questions about valuation, leverage and liquidity increasingly spill into public debate. Delayed distributions and opaque marks no longer remain internal matters.

Under these conditions, belief takes on a larger role. In a market where assets change hands frequently, price discovery performs much of the work of persuasion. In a congested market, trust fills the gap. That substitution is tolerable for a time. Over longer periods, it strains the relationship between managers and investors.

Just a Normal Cycle?

Private equity has been declared in trouble before. Periods of weak exits and difficult fundraising are not unprecedented. Seen through this perspective, today’s congestion reflects tighter monetary policy rather than structural weakness.

This argument deserves weight. The industry has shown resilience across multiple crises and continues to command deep institutional support. But today’s environment differs from earlier cycles in important ways. Higher interest rates are not a temporary shock. Leverage is no longer cheap by default. Valuation multiples face sustained pressure.

Previous downturns unfolded against a backdrop of falling or near-zero interest rates, expanding credit availability and a public-market environment that ultimately reopened at higher multiples. In those conditions, time itself functioned as a tailwind. Assets held through the cycle often benefited from cheaper refinancing and multiple expansion once markets stabilised. That dynamic underpinned the industry’s confidence that patience would be rewarded.

Today, time is no longer neutral. Holding periods lengthen in an environment where financing costs remain elevated, refinancing risk has increased and the prospect of multiple expansion is far less assured. What once looked like disciplined waiting now carries an explicit cost, measured in higher interest expense, constrained optionality and growing divergence between appraised value and market-clearing prices.

More importantly, the scale and duration of the exit backlog distinguish this moment. When valuation gaps persist for years rather than quarters, patience becomes difficult to distinguish from postponement.

Wider Economic Impact

Private equity’s congestion matters because it weakens one of the central functions of markets: price discovery. Markets do not merely allocate capital. They teach participants what assets are worth by forcing expectations to confront demand. When businesses change hands, valuations are tested, assumptions are challenged, and capital is reallocated accordingly. That process is imperfect, but it is cumulative and corrective.

When clearing slows, those corrective signals weaken. Assets remain in place, ownership persists, and valuation becomes less a product of exchange than of internal review. The feedback loop that normally disciplines expectations operates more slowly, if it operates at all. Over time, the absence of transactions means fewer moments in which beliefs are confronted by outcomes. Lessons still arrive, but they arrive late, and often only when adjustment becomes unavoidable.

As private ownership expands across the economy, the consequences of this dynamic extend beyond individual funds. A growing share of corporate activity now sits inside structures where valuation depends on appraisal conventions, governance processes and negotiated assumptions rather than observable prices. That places a greater burden on trust. Investors must believe not only that assets are being managed competently, but that the numbers used to describe their value remain anchored to reality despite the absence of regular market tests.

Governance becomes harder to assess under these conditions. Boards may be active and reporting thorough, but without external bids or exit processes, it is difficult to know how strategies would withstand scrutiny outside the sponsor’s own framework. Performance is evaluated internally, using metrics that increasingly reflect persistence rather than proof. Confidence, in turn, rests less on what the market has demonstrated and more on what the system asserts.

A market that clears infrequently does not fail outright. But it teaches less effectively. It distinguishes skill from luck more slowly. It postpones the recognition of error. In doing so, it weakens one of the core mechanisms through which capital markets adapt and correct themselves.

The Cost of Capital Without Exits

Private equity is not broken. But it is constrained. Exits have slowed, distributions have thinned, and valuation has drifted further from the discipline of frequent market testing. The industry continues to operate, to report returns and to attract capital, but it does so under conditions where resolution is deferred rather than routine.

The response so far has been adaptive rather than corrective. Financial engineering has filled the space left by stalled exits. Appraisal processes have absorbed volatility. Holding periods have lengthened, and expectations have adjusted. None of this implies misconduct or imminent collapse. But taken together, these adaptations risk normalising delay as a substitute for verification.

The industry’s next phase will depend less on narrative than on resolution. That does not require a reckoning or a crisis. It requires exits that establish prices, distributions that validate returns, and a willingness to let markets perform their disciplining role rather than deferring it indefinitely. Without that, confidence rests increasingly on belief rather than demonstration.

Eventually, all capital structures face the same test. Not how smoothly returns are reported, or how stable valuations appear on paper, but how readily ownership can be converted into cash when required. In that sense, the question confronting private equity is not whether it can endure congestion, but what it costs when capital can no longer clear.