Impact of Exchange Rate on Returns in Private Equity and Venture Capital (Spectra Investments)

Summary

• The Brazilian Real experienced severe depreciation relative to the US Dollar, shifting from a 1:1 exchange rate in 1994 to a range between 5.0 and 6.0 in 2022.p.1
• Nearly 60% of the sample's analyzed deals were initiated and divested after 2010, when the BRL depreciated from around 1.70 to near 5.50 at the end of 2022.p.3
• A perennial investor making consistent annual investments in Brazil experienced a much lower currency impact, achieving an IRR only 1.9% higher in BRL than in USD.p.6
• In a fund-level dataset of 387 PE and VC funds raised between 1994 and 2022, fund managers managed to narrow the currency impact compared to individual deal performance.p.6
• While 80% of funds had lower returns in USD, 52.9% of funds recorded an exchange rate impact on IRR between 0% and 10%.p.7

Key insights

1. Investments executed during BRL undervaluation (2002–2006) benefited from currency appreciation, elevating USD returns above BRL returns.p.4
2. Inflation disparities account for 66% of the long-term exchange rate fluctuation between Brazil and the US during average holding periods.p.6
3. Attempting to time entry and exit based on currency valuation proved less effective at mitigating exchange rate risk than maintaining a continuous annual investment pace.p.6
4. PE and VC fund managers mitigate currency risk by staggering acquisition dates across the investment period and timing exits to coincide with BRL appreciation.p.6
5. The dispersion of currency impact is much narrower for funds than for single deals, with 94% of funds seeing BRL minus USD IRR differences between -20% and 20%.p.7