Risk-Adjusting the Returns to Venture Capital
49 Pages Posted: 14 Aug 2013 Last revised: 17 Jun 2015
Date Written: June 16, 2015
We adapt stochastic discount factor (SDF) valuation methods for venture capital (VC) performance evaluation. Our approach generalizes the popular Public Market Equivalent (PME) method and it allows statistical inference in the presence of cross-sectionally dependent, skewed VC payoffs. We relax SDF restrictions implicit in the PME so that the SDF can accurately reflect risk-free rates and returns of public equity markets during the sample period. This generalized PME yields substantially different abnormal performance estimates for VC funds and start-up investments, especially in times of strongly rising public equity markets and for investments with betas far from one.
Keywords: venture capital, private equity, risk-adjusted returns, performance measurement, stochastic discount factor, CAPM, PME, GMM
JEL Classification: G12, G24
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