The Components of Private Equity Performance: Implications for Portfolio Choice
William B. Kinlaw
State Street Global Exchange
Windham Capital Management
State Street Corporation
February 28, 2014
MIT Sloan Research Paper No. 5084-14
We use a proprietary database of private equity returns to measure the excess return of private equity over public equity and to partition it into two components: an asset class alpha and compensation for illiquidity. Our evidence suggests that private equity managers, as a group, generate alpha by anticipating the relative performance of economic sectors. If we assume that manager‐specific alpha is fully diluted across a broad universe of private equity managers, we can interpret the balance of excess return as a premium for illiquidity. This result suggests that investors can capture the asset class alpha of private equity by using liquid assets such as ETFs to match the sector weights of private equity investors. This decomposition of private equity performance has important implications for portfolio choice, which we explore in this paper.
Number of Pages in PDF File: 26
Keywords: Asset class alpha, Excess return, First mover advantage, Illiquidity premium, Lock up, Pseudo private equity, Risk-equivalent return, Shadow allocation, Shadow asset, Shadow liability, Stepwise regression
JEL Classification: G11, G12working papers series
Date posted: March 7, 2014
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