Bridge over ocean
4 April 2019 CFA Institute Journal Review

Determinants of Private Equity Investments across the BRICS Countries (Digest summary)

  1. Peter Eickelberg, CFA

Despite abundant literature discussing the determinants of private equity investments in developed markets, comparatively little has centered on emerging markets. GDP growth, real interest rates, corporate tax rates, and growth in market capitalization seem to drive private equity investment in the BRICS (Brazil, Russia, India, China, and South Africa) countries. With these drivers identified, leadership in the BRICS can potentially shape the environment to promote private equity activity.

How Is This Research Useful to Practitioners?

The authors summarize a large amount of private equity (PE) research in their literature review, which serves as a quick overview for the topic in US and developed markets (and even some emerging markets). Also, because the focus of the authors’ research—namely, the drivers of PE investment in emerging markets (EMs)—remains underserved by academic studies, there is ample room to adapt published PE studies to EM.

Most importantly, if the authors have identified the true drivers of PE investment in the BRICS (Brazil, Russia, India, China, and South Africa) countries, policymakers can take informed action to encourage PE investment domestically. For example, previous researchers have shown that PE leads to job growth in developed markets—a finding policymakers can use to help drive job creation.

The authors build their hypothesis around the assumption that supply and demand drive PE investment. They find positive relationships for overall GDP growth and real interest rates but negative relationships for market-cap growth and corporate taxes. (They do not report statistically significant relationships with the Corruption Perceptions Index or unemployment rate.) Some of their findings confirm intuition. A market’s healthy economy and lower tax rates should make its investments more attractive. And by one line of reasoning, PE will experience more demand when bond financing becomes more expensive. But the negative relationship with PE market-cap growth runs counter to the idea that increasing values provide attractive exit opportunities. The authors theorize that instead, investors could prefer public markets because of value considerations.

The authors suggest specific interventions to encourage PE investment in the BRICS—for example, the reduction of tax burdens that inhibit PE growth, additional (and enforced) regulations to protect investors, incentives to attract additional pension fund investments, and governmental focus on entrepreneurship (although they leave this item undefined).

How Did the Authors Conduct This Research?

The authors analyze eight years of secondary data (2008–2015) from the five BRICS countries using a factor model and identify positive or negative loadings of their independent variables. The full set of variables are (1) real interest rates, (2) GDP growth, (3) the Corruption Perceptions Index, (4) corporate tax rates, (5) PE market capitalization growth, and (6) the unemployment rate. The dependent variable is, of course, the amount of PE funds raised over those eight years in the BRICS.

The authors find the fixed effects model to be superior to the least-squares dummy and pooled regression models, so these latter two are not reported. Note that despite the lack of statistical significance for the Corruption Perceptions Index and the unemployment rate, the direction of the relationships can still provide information and suggest areas for further research.

Abstractor’s Viewpoint

The authors have done a very thorough job documenting other published literature on PE drivers in developed and, where available, emerging markets. Therefore, they provide a resource for anyone wishing to get up to speed on the research quickly. As mentioned, researchers could use this summary of developed market studies to find gaps in the research for EMs without having to develop the methodology, or even the question, independently.

The reasons the authors provide for their results are not always satisfying. For example, when market-cap growth fails to correlate positively with PE investment, the authors suggest that investors have chosen value over growth. They could try to confirm this explanation by surveying actual PE investment firms from the period. And the recommendation that BRICS governments attempt to “promote a culture of entrepreneurship” lacks useful guidance.

But overall, it seems a worthwhile exercise to replicate developed market studies within EMs because there can be real differences in PE investment dynamics. We ought not to assume, for example, that what works in the United States will work in Brazil.

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