A commenter on the Opening Bell this morning linked to an FT article suggesting that private equity actually (surprise suprise) underperforms major public equity benchmarks, like the S&P 500. We’re a bit skeptical of most data that tries to aggregate results for this kind of stuff, cause it’s got to be riddled with bad data and other biases borne out of the data collection methods.
This part however was interesting and believable:
Mr Gottschlag admitted that some private equity firms were consistently outperforming the stock market. But he was sceptical about the number of buy-out funds that say they are “top-quartile” in performance rankings. “I have never met a general partner who was not top-quartile. So I wonder where three-quarters of the industry is hiding,” he said.
This same observation has been made many times, not just with PE, but with hedge and VC funds as well. Still, have to wonder whether the mistake is in thinking of private equity as an asset class that’s comparable with the public markets. Reading this brought to mind an old post from Eric Falkenstein arguing against the old saw that risk and return are positively correlated:
Thus, I posit the theory that risk is compensated by return, but only in areas that are non-zero sum. When investors merely buy existing claims from each other, they are engaged in overconfidence (see Milgrom-Stokey’s No Trade Theorem ). People self-select into non-zero sum situations based on their informational advantages and above-average ability, and on average prosper accordingly. Thus you need not only a high tolerance for risk, but moxie, because it takes energy and negotiating prowess to create and capture these non-standard options from one’s investments. They are active investments even if the activity is merely in the negotiation of rights.
So maybe on the whole, there’s nothing special about private equity (nor is it obvious why there should be). But certain operators — the ones who consistently do better/the ones who have the necessary moxie — can outperform.
Private equity underperforms market [FT]
Are Almost All Investors Biased? [Overcoming Bias]
Ed note: Unfortunately, although we use the plural first person all the time, there’s technically just one of us writing the Opening Bell… which means no coinflip about who had to write it today. That being said, we still like a good wager, so yesterday at Thanksgiving we amused ourselves by doing prop bets with our family members: $50 bet to whomever got the better end of the wishbone. After that, we just started snapping random bones we could find to see whose side ended up longer. We ended up +$250, though our high was +$900. Also, seeing as there may not be any news of substance today and there probably won’t be too many of you reading, we make no guarantees as to the accuracy, validity, newsworthiness, or actionability of any of these items. It might just be links to stories about shopping — we’re not sure.
Ben Bernanke has a special Thanksgiving message for DealBreaker and Ron Paul. It sounds like he’s not happy about t
