Public Equity May Resemble Private Equity More Than Investors Realize - ETF Database

New research from FTSE Russell and Cboe, published in March 2025 under the title "Managing Risk Exposures to Private Equity through Public Equity," challenges the widely held view among institutional allocators and advisors that private equity offers a reliably low-correlation alternative to public stocks. According to the research, much of private equity's perceived independence stems from return smoothing, since private equity returns as reported by Cambridge Associates are not marked to market and are updated less frequently than public assets. The findings were presented in a recent webinar by Mark Barnes, head of Investment Research, Americas, at FTSE Russell, and Ed Tom, senior director, Derivatives Market Intelligence, at Cboe.

Using U.S. private equity data from Cambridge Associates and public equity data from Russell indices, the FTSE Russell team applied moving averages weighted by the autocorrelation structure of private equity to public equity returns. The adjustment raised correlations to private equity as high as 0.92 over the most recent 20-quarter period. Tracking error analysis produced a similar result: for the Russell 2000 Index, tracking error fell from 19.5% to 6.2% over the last 20 quarters when smoothed public returns were compared with private equity returns. Barnes said that once adjusted for smoothing, private equity's apparently superior risk-adjusted performance "starts to resemble that of public equities," with implications for advisors who use private equity for diversification or justify higher fees on differentiated performance.

The research also examined market stress. Private equity returns declined in 2008, but the lagged and muted post-crisis recovery reduced measured correlation. Barnes pointed to evidence of asymmetric smoothing, in which private equity returns react more to downturns than to recoveries, distorting perceived risk during rebounds when reported returns are unusually stable.

Building on this work, Cboe's Tom tested whether listed Russell 2000 options could hedge private equity exposures. Using tactical and systematic strategies, the team simulated hedges against the 10 largest private equity drawdowns since 2000. A put spread, long a 15-delta put and short a 5-delta put, mitigated drawdowns in eight of 10 cases. Tom said tactical hedging performed best when correctly timed, while systematic strategies running continuously still offered meaningful protection. According to Cboe, Russell 2000 options are the second-most-liquid index options market in the U.S., with roughly 100,000 vega traded daily, which Cboe cites as making such hedging operationally viable.

The researchers acknowledge that private equity retains unique features, including access to niche opportunities and long-term governance advantages. Barnes said the question for advisors is "whether its differences are structural or statistical," and that for portfolio design, assumptions around diversification, liquidity premiums and risk budgeting should be reexamined.