Private equity and private debt together form one of the most calculation-intensive sections of the CAIA Level I exam. The concepts are familiar to most candidates — carried interest, the J-curve, IRR — but the exam tests them at a level of mechanical precision that professional familiarity doesn't always provide.
This post covers the full scope of the private capital section: investment strategies, fund mechanics, performance measurement, and the private debt content that has expanded meaningfully in the 2026 curriculum. For a broader orientation to the exam, see our complete CAIA Level I candidate guide.
Venture capital funds invest in early-stage companies — often pre-revenue or pre-profit — in exchange for equity stakes. The investment thesis is that a small number of portfolio companies will generate returns large enough to offset the losses from the majority that will fail.
Empirical evidence from venture portfolios consistently shows that return distributions are heavily right-skewed: a small number of investments produce the overwhelming majority of fund-level returns, while most investments return less than the capital invested. IRR as a performance metric is particularly sensitive to the timing of cash flows, and the timing of successful VC exits has a large effect on reported IRR.
Growth equity occupies the space between venture capital and leveraged buyouts: investing in companies that are already profitable and growing, but want capital to accelerate that growth. Growth equity investments are typically minority stakes, unlike buyouts which usually acquire control.
The 2026 CAIA curriculum expanded the growth equity content to reflect how central this strategy has become. Expect questions on how growth equity differs from both VC (in terms of company maturity, use of leverage, and return profile) and from buyouts (in terms of control, governance, and value creation mechanism).
Leveraged buyouts are control acquisitions of mature companies, financed with a combination of equity from the PE fund and debt placed on the acquired company's balance sheet. Return in an LBO comes from three sources the exam tests:
Leverage effect. If the acquisition is made at a 5x EBITDA multiple and sold at the same multiple, the equity return will exceed the asset return because a portion of the purchase was financed with debt that has since been repaid from the company's cash flows.
Multiple expansion. If the fund buys at 6x EBITDA and sells at 8x EBITDA, the gain from the multiple expansion accrues entirely to the equity.
Operational improvement. Revenue growth, cost reduction, and margin improvement driven by changes the PE manager makes during the holding period.
Distressed PE funds invest in the debt or equity of companies in financial difficulty — in default, approaching bankruptcy, or being restructured. The return thesis is that the market prices distressed securities too cheaply, either because of forced selling by institutions that can't hold defaulted paper, or because the restructuring outcome is more favourable than market prices imply.
Know the distinction between distressed debt (buying the bonds or loans of troubled companies) and distressed equity (buying equity that has been wiped out or heavily diluted as part of a bankruptcy reorganisation). The risk profiles and return drivers of each are different.
The waterfall determines how exit proceeds are split between LPs and the GP. The standard structure: first, LPs receive return of capital. Second, LPs receive their preferred return — typically 8% annually on invested capital. Third, the GP catch-up: the GP receives a disproportionate share until it has received its target percentage (typically 20%) of total profits. Fourth, carried interest: remaining profits are split 80/20 between LPs and GP.
The exam tests this mechanics directly. Know the order of distributions and what each step means for GP and LP economics at different return levels.
IRR is the discount rate that makes the net present value of all cash flows equal to zero. It accounts for the timing of every capital call and distribution. IRR has meaningful limitations: it can be manipulated by transaction timing and assumes reinvestment of distributions at the IRR itself.
TVPI (Total Value to Paid-In) is total value — distributions plus current residual value — divided by total capital called. A TVPI of 1.8x means the fund has returned 1.8 times the capital invested, including unrealised value.
DPI (Distributions to Paid-In) is the realised component: cash actually returned to LPs divided by capital called. The most conservative measure of what LPs have actually received.
RVPI (Residual Value to Paid-In) is the unrealised component: current estimated value of remaining portfolio divided by capital called. TVPI = DPI + RVPI.
The exam tests both how to calculate these metrics and when each is more meaningful. DPI is most relevant for evaluating mature funds near the end of their lives. IRR rewards early exits and penalises funds that take longer to generate the same absolute return.
The J-curve describes the typical pattern of PE fund returns over time. In the early years, the fund is calling capital, paying management fees, and making investments that haven't yet appreciated — the NAV of the fund relative to paid-in capital tends to be below 1.0x. As investments mature and are sold, the fund begins generating positive returns.
The J-curve has practical implications the exam tests. A PE fund in its early years cannot be evaluated on the same terms as a fund nearing the end of its life. Institutional investors evaluating PE fund performance need to understand where a fund is in its life cycle before interpreting its metrics.
Private debt has grown significantly as an asset class, and the 2026 curriculum reflects this. Private credit funds fill a lending gap left by banks following regulatory changes after the 2008 financial crisis, providing loans to companies at a yield premium over publicly traded corporate bonds — an illiquidity premium that reflects the private nature of the loans.
Direct lending funds provide senior secured loans, typically to middle-market companies. The return comes from the interest rate on the loan, typically floating rate, which provides some protection against rising interest rates. Key exam concepts include covenant protection — financial covenants and maintenance covenants — and what happens when covenants are breached.
Mezzanine debt sits between senior debt and equity in the capital structure. It is subordinated to senior debt and carries a higher interest rate to compensate for the higher risk. Mezzanine financing often includes warrants or equity kickers — the right to purchase equity in the borrower at a fixed price — which give the mezzanine lender upside participation if the company performs well.
The combination of current yield and potential upside from the equity component means mezzanine debt's return profile resembles a hybrid between fixed income and private equity.
A central organising concept is how risk and expected return vary by position in the capital structure. Senior secured debt is least risky and lowest returning. Mezzanine debt is riskier and carries a higher expected return. Equity is most risky and has the highest return potential. In a downside scenario, recovery rates depend heavily on where you sit. Understanding this hierarchy is core exam content.
Institutional investors who want ongoing exposure to private equity face the challenge that PE fund returns are heavily influenced by the market conditions at the time investments are made. A PE fund launched in a period of cheap credit will have a different return profile from one launched in a period of market stress — even if managed by the same high-quality manager.
Diversifying across vintage years — committing to multiple funds launched in different years — reduces the concentration of exposure to any single market environment. The exam tests this concept directly and as part of broader questions about portfolio construction with private equity.
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Get access — $199 →For context on how private equity and private debt fit within the full CAIA Level I curriculum, see our topic-by-topic breakdown. For structuring your study time across all sections, see our study plan guide.