78 Pages Posted: 2 Sep 2014 Last revised: 12 Jan 2022
Date Written: January 1, 2022
Over ten trillion dollars are allocated to private market funds that require outside investors to commit to transferring capital on demand; most of these funds are Private Equity (PE). We show within a novel dynamic portfolio allocation model that ex-ante commitment has large effects on investors’ portfolios and welfare, and we quantify those effects. Investors are under-allocated to PE and are willing to pay a larger premium to adjust the quantity committed than to eliminate other frictions, like timing uncertainty and limited tradability. Perhaps counter-intuitively, commitment risk premiums increase with secondary market liquidity and they do not disappear even if investments are spread over many funds.
Keywords: Capital commitment, private equity, commitment risk, liquidity premium
JEL Classification: G11, G12
Suggested Citation: Suggested Citation