We have all heard the comment that your private equity portfolio is riskier than your public equity portfolio. But, is this true? How do you even measure risk in private equity? Glad you asked. We, at Cobalt, think of measuring risk in private equity in two ways: versus short-term Treasuries and looking at returns.

Measuring Risk through Treasury Bills

If we measure risk as the percentage that outperforms 1-3 month treasury bills, we get some interesting takeaways. As the chart below shows, slightly less than half of US public stocks outperformed short-term Treasuries.

Comparably, more than 80% of buyout funds have outperformed that same measure. Some may argue that comparing a single stock to a basket of investments is not a fair comparison. Fair enough, let’s use buyout deals as a better comparison. If we do that, more than 60% of buyout deals have outperformed Treasuries.

Measuring Risk through Returns

To measure risk through returns, we looked at the percentage, within a given portfolio, of stocks and funds that lose value, have gains that offset losses and create value.

If we look at the chart above, we can see that in a public portfolio, it’s basically 4% of the overall portfolio that has created value. More interestingly, a full 58% has lost value. Thankfully, in the private equity world, that’s generally not the case. In the analysis above, we used funds as a comparable measure as most investors invest in a fund rather than a series of single company investments. For example, we can see that for buyout funds, a majority of the portfolio has created value.

Overall, in private equity, the skew of the portfolio that creates value can be much more favorable to investors. In fact, the odds of positive performance increase since there is less pressure to make up for the majority of funds losing money.

Is Private Equity Riskier than Public Equity?

Imagine if we switched the data and presented private equity performance as public equity performance. 58% of your selections would lose money. Only 4% of your selections would drive gains. In fact, less than half of your deals would outperform a short-term Treasury. What would you say?

Investors would likely say “that’s too risky relative to my other options”. And, we would agree. Unfortunately, we fear many investors have been giving the right answer to the wrong asset class. Based on the examples above measuring risk to short-term Treasures and returns, we would argue that private equity is less risky than public equity.

To learn more about the data used in this analysis, and how you can leverage that data for your own industry-level analytics, reach out to us today.