Key Takeaways
- • The "low volatility" claim in private assets is illusory. AQR Capital Management co-founder Cliff Asness describes this as "volatility laundering"—prices appear stable only because they are not marked to market daily, masking the true underlying price fluctuations of private securities.
- • Private assets carry higher risk than commonly marketed. Private securities can be opaque, speculative, distressed, and highly leveraged, making them often riskier than public alternatives despite marketing claims positioning them as safer investments.
- • The "illiquidity premium" thesis remains unproven and contested. Academic debate persists over whether private assets genuinely deliver superior returns in exchange for higher risk and reduced liquidity, with results heavily dependent on assumptions and data quality.
- • Performance comparison metrics are fundamentally misleading. Private equity and venture capital use Internal Rate of Return (IRR) calculations and defined-lifespan partnership structures that are not directly comparable to annualized public market returns, making apples-to-apples performance assessment difficult.
- • Due diligence is essential before allocating to private assets. Investors should not assume private assets will outperform public ones simply due to trading difficulty; careful evaluation is required as outcomes are essentially a coin flip without rigorous analysis.
Summary
The private asset management industry markets two core claims to investors: lower risk and superior returns. According to Morningstar's analysis, the first assertion is demonstrably false while the second remains highly questionable.
The purported stability of private securities is a statistical illusion rooted in valuation methodology. Because private assets lack continuous daily pricing like public equities, their prices appear less volatile to investors. Cliff Asness, co-founder of AQR Capital Management, characterizes this phenomenon as "volatility laundering"—the appearance of stability masks genuine underlying price fluctuations. Critically, volatility and risk are distinct concepts. Volatility measures price fluctuations, while risk quantifies the probability of permanent capital loss. Private securities often exhibit characteristics that elevate true economic risk: opacity, speculation, distressed conditions, and high leverage. These attributes typically indicate higher rather than lower risk compared to public market alternatives.
The second marketing claim—that private assets deliver better returns—is theoretically grounded in the "illiquidity premium" concept: investors should demand higher returns for accepting reduced liquidity and elevated risk. However, extensive academic research has produced mixed and inconclusive results on whether this premium exists, how large it is, and whether managers can consistently capture it. Data quality issues and methodological assumptions heavily influence conclusions, making generalized statements unreliable.
A practical complication compounds the analysis: private equity and venture capital vehicles operate through drawdown structures with defined lifespans, and performance is reported using Internal Rate of Return (IRR) metrics rather than annualized returns. This fundamental structural difference makes direct performance comparison with public markets methodologically problematic.
The verdict for institutional investors is clear: private assets should not be assumed to outperform public investments simply because they are harder to trade. Outcomes are essentially probabilistically neutral without rigorous due diligence. Sophisticated investors must conduct careful fundamental analysis rather than relying on industry claims or structural characteristics as performance predictors.
The purported stability of private securities is a statistical illusion rooted in valuation methodology. Because private assets lack continuous daily pricing like public equities, their prices appear less volatile to investors. Cliff Asness, co-founder of AQR Capital Management, characterizes this phenomenon as "volatility laundering"—the appearance of stability masks genuine underlying price fluctuations. Critically, volatility and risk are distinct concepts. Volatility measures price fluctuations, while risk quantifies the probability of permanent capital loss. Private securities often exhibit characteristics that elevate true economic risk: opacity, speculation, distressed conditions, and high leverage. These attributes typically indicate higher rather than lower risk compared to public market alternatives.
The second marketing claim—that private assets deliver better returns—is theoretically grounded in the "illiquidity premium" concept: investors should demand higher returns for accepting reduced liquidity and elevated risk. However, extensive academic research has produced mixed and inconclusive results on whether this premium exists, how large it is, and whether managers can consistently capture it. Data quality issues and methodological assumptions heavily influence conclusions, making generalized statements unreliable.
A practical complication compounds the analysis: private equity and venture capital vehicles operate through drawdown structures with defined lifespans, and performance is reported using Internal Rate of Return (IRR) metrics rather than annualized returns. This fundamental structural difference makes direct performance comparison with public markets methodologically problematic.
The verdict for institutional investors is clear: private assets should not be assumed to outperform public investments simply because they are harder to trade. Outcomes are essentially probabilistically neutral without rigorous due diligence. Sophisticated investors must conduct careful fundamental analysis rather than relying on industry claims or structural characteristics as performance predictors.
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