Valuing Private Equity Strip by Strip

88 Pages Posted: 14 Jan 2020

See all articles by Arpit Gupta

Arpit Gupta

NYU Stern School of Business

Stijn Van Nieuwerburgh

Columbia University Graduate School of Business; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

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Date Written: December 2019

Abstract

We propose a new valuation method for private equity investments. First, we construct a cash-flow replicating portfolio for the private investment, applying Machine Learning techniques on cash-flows on various listed equity and fixed income instruments. The second step values the replicating portfolio using a flexible asset pricing model that accurately prices the systematic risk in bonds of different maturities and a broad cross-section of equity factors. The method delivers a measure of the risk-adjusted profit earned on a PE investment and a time series for the expected return on PE fund categories. We apply the method to buyout, venture capital, real estate, and infrastructure funds, among others. Accounting for horizon-dependent risk and exposure to a broad cross-section of equity factors results in negative average risk-adjusted profits. Substantial cross-sectional variation and persistence in performance suggests some funds outperform. We also find declining expected returns on PE funds in the later part of the sample.

Keywords: affine asset pricing models, Buyout, cross-section of returns, infrastructure, Natural resources, private equity, real estate, temporal pricing of risk, Valuation, venture capital

JEL Classification: G12, G24

Suggested Citation

Gupta, Arpit and Van Nieuwerburgh, Stijn, Valuing Private Equity Strip by Strip (December 2019). CEPR Discussion Paper No. DP14241. Available at SSRN: https://ssrn.com/abstract=3518579

Arpit Gupta (Contact Author)

NYU Stern School of Business ( email )

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New York, NY
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HOME PAGE: http://arpitgupta.info

Stijn Van Nieuwerburgh

Columbia University Graduate School of Business ( email )

3022 Broadway
Uris Hall 809
New York, NY New York 10027
United States

HOME PAGE: http://https://www0.gsb.columbia.edu/faculty/svannieuwerburgh/

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
United States

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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