A number of LPs are worried about adverse selection of co-investment opportunities by GPs.
According to Capital Dynamics' latest Perspectives report, this concern has not been proven or dismissed by a study, but anecdotal evidence suggests that the size of deals offered for co-investment is the main driver, rather than quality. Research conducted by the funds of funds suggests that GPs offer co-investments when the equity required is around 1.6 times their median investment amount.
The report highlights the importance of selecting the right deals for co-investment. Successful deals are more likely to help foster strong relationships between LPs and GPs, while inferior deals jeopardise LP's willingness to commit to successor funds.
Co-investment is increasingly popular with LPs, and GPs are offering more opportunities for these transactions. The report found that 53 per cent of LPs said they received better returns from co-investments compared with their overall portfolio, and a further 13 per cent said they reported significantly better returns.
Strong deal flow is crucial for both GPs and LPs in order to carry out more co-investment deals. However, current market conditions are preventing the amount of opportunities on offer.