Alternative Investment Funds (AIFs) invest mostly in unlisted investments such as start-ups, early stage ventures, real estate, infrastructure and stressed assets. Looking at diverse investments, correct benchmarking is important to accurately assess their performance. For AIFs, creating a benchmark using the broad market indices available is a challenge. Furthermore, the systematic risks of AIFs vary significantly over time, making it difficult to measure their performance. Peer group benchmarking can serve as a performance barometer, identifying a group of funds with similar investment mandates or strategies for performance comparison. Here are some performance metrics:
AIFs, specifically Category I and II, are closed-end investment vehicles with cash flows (withdrawals and distributions) that are controlled and staggered based on available entry and exit opportunities, as identified by investment managers. Therefore, money-weighted return, measured using the internal rate of return, or IRR, is more appropriate for performance comparisons. Pooled IRR is calculated at an aggregate level by pooling the cash flows within all the schemes belonging to the category and the previous year. Since the performance of all funds must be compared for the same period, it is a common practice to compare with a group with a similar initial year or ‘vintage’.
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Wealth multiplier can be calculated at the peer group level for comparison of investment and distribution patterns. Distribution for paid-in capital (DPI) is an important metric to evaluate the money returned versus money managed quotient, while the residual value of paid-in capital (RVPI) helps measure unrealized profits. The total value of paid-in capital (TVPI) refers to the sum of realized and unrealized gains for similar types of funds. DPI is the ratio of total distributions made to the paid-in capital to investors.
RVPI is the proportion of the residual value of all investments remaining in the fund after distribution of paid-up capital. TVPI is the ratio of the sum of total paid-up capital to total distribution and residual value.
Public market equivalent methods can be used to figure out the alpha from the AIF on broad market indices. These methods replicate the AIF’s cash flows to a public index in order to measure how investments in the AIF would have performed in a public market index.
Selecting the right peer group is also important. Investors should look at benchmarks that consider actual portfolio allocation for categorization. As of March 2022, the venture capital fund benchmark in vintage 2016-2021 delivered higher returns than other sub-categories under Category I and II, except in 2019. For vintage 2019, the benchmark for equity funds investing in a mix of listed and unlisted securities delivered the highest returns among other sub-categories within Category I and II AIFs. Venture capital funds belonging to vintage years 2016 to 2021 have also outperformed S&P BSE Sensex and S&P BSE 500.
With increasing fund launching and changing industry dynamics, there is scope for further development of categories and addition of new sub-category level benchmarks. While benchmarking is the first step in fund evaluation, a qualitative evaluation covering investment management, decision-making processes and controls is equally important.
Piyush Gupta is Director-Fund Research, CRISIL Market Intelligence & Analytics,
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