Podcast Episode Summary: "Why 95% of LPs Misread Private Market Returns"
How I Invest with David Weisburd – Episode 267
Guest: Professor Greg Brown, Professor of Finance at UNC
Release Date: December 22, 2025

Episode Overview

In this episode, David Weisburd interviews Professor Greg Brown, a leading academic in finance from UNC, about the persistent misconceptions limited partners (LPs) hold when assessing private market returns. The conversation delves deep into the methodologies for benchmarking private versus public investments, the nuances of risk measurement, alpha generation, manager selection, fund size effects, persistence of returns, and the behavioral as well as structural obstacles institutional investors face.

Key Discussion Points and Insights

1. Why Private Markets Remain Largely Under-Researched

• Data Access and Academic Lag:
  Private markets have historically lacked high-quality, accessible data. Only recently has more robust data become available, finally allowing academics to study questions previously ignored.
  • "It's just woefully under researched compared to public markets... we've finally gotten our hands on data that we think is research quality data." (00:11, Greg Brown)
• Growing Relevance:
  As private markets grow in assets under management (AUM) and importance, academic study has increased to meet real demand for objective insights, in contrast to industry marketing.

2. Fundamental Issues with Measuring Private Market Returns

• Opaque Return Data:
  Unlike public assets, private assets lack clear market prices. Net asset values (NAVs) are used but are inherently smoothed and do not reflect real-time market dynamics. This limits traditional risk-adjusted performance analysis.
  • "We don't observe returns for private assets... the data that you get doesn't lend itself to the type of analysis that's usually done to calculate risk adjusted returns." (01:35, Greg Brown)

3. Benchmarking Returns: The Kaplan-Shor PME

• Explanation and Importance:
  The Kaplan-Shor PME (Public Market Equivalent) is the most widely used academic tool to compare private investment outcomes against public market benchmarks.
  • "The idea is pretty simple... how would you have done in a particular investment versus if you had taken the same capital and committed it to a public benchmark." (02:09, Greg Brown)
• Methodology:
  Simple spreadsheet calculation discounting all private fund cash flows at the public benchmark's return rate. Produces a "market-adjusted multiple."
  • "A number like 1.2 would be equivalent to earning 20% more in the private fund than if you had invested in the public benchmark." (02:52, Greg Brown)

4. Key Insights from Academic Research Using PME

• Buyouts:
  Historically strong outperformance (2–5% risk-adjusted excess returns over public markets). Surprisingly, the measured market beta (systematic risk) for buyouts is roughly 1—similar to the public market as a whole.
  • "Buyout funds have a market beta that seems to be about the same as the market... even after you risk adjust them... 2 to 5% range better than the public markets." (04:02, Greg Brown)
• Venture Capital:
  Venture shows higher absolute returns but also a much higher beta (1.4–2.3). Thus, after adjusting for risk, venture generates little to no alpha for average investors.
  • "The lowest estimate we've got is about 1.4 for US venture. Higher estimates are in the range of like 2.3... even though Venture has had higher returns... there's less alpha, essentially zero alpha in Venture." (07:33, Greg Brown)

5. Conceptual Clarifications: Beta, Volatility, and Alpha

• Beta:
  Measures how much market risk is in an asset, not the idiosyncratic (diversifiable) volatility.
  • "Beta is essentially how much market risk you have... it's the scaled correlation with the market index." (05:17, Greg Brown)
• Alpha:
  Outperformance above what you’d expect for a given beta compared to the benchmark.
• Implications for Portfolio Construction:
  Higher volatility assets with higher returns but the same beta are superior if they deliver more alpha.

6. Market Dynamics, Dry Powder, and Valuation Drift

• Market Regimes Matter:
  Periods like the "Mag 7" years (recent tech stock outperformance) can distort risk-adjusted comparisons. Private equity appears less favorable when large cap tech surges, but prior periods (Dotcom bust) saw outstanding private market alpha.
  • "If you look at the relative performance of private markets in the early aughts when the Dot com bubble was bursting... alphas... were, you know, double digit percentage." (24:23, Greg Brown)
• Valuation Bias:
  Investors often assume asset-class valuations are fixed, ignoring the impact of capital flows and collective sentiment on entry prices.

7. Geography and Benchmarks

• Relative vs. Absolute Performance:
  Outperformance can look different when measured against local benchmarks. Foreign private equity may underperform in pure returns but outperform on a local market-relative basis because local public benchmarks have lagged.
  • "Despite underperforming on an unadjusted basis, non US private equity has actually done better on a risk adjusted basis." (12:06, Greg Brown)

8. Fund Size and Dispersion

• Smaller Funds:
  Have higher average returns driven by a long right tail (a few stellar performers). Median returns, however, are similar across all fund sizes.
  • "There's just a much bigger right tail in smaller funds than you see in the large funds." (14:49, Greg Brown)
• Implications for LPs:
  Use due diligence budget to seek top small funds rather than allocate resources across big funds, where outcomes cluster tightly.

9. Persistence of Returns

• Buyouts:
  Persistence at the GP firm level has largely disappeared post-2010, but persists at the individual partner level as talent moves between firms.
  • "At the GP level... has pretty much gone away... but there is persistence... at the individual deal partner level." (17:04, Greg Brown)
• Venture:
  Persistence remains strong—top VCs tend to remain top due to relationship advantages and access to the best deals.

10. Structural and Behavioral Inefficiencies Among Institutional LPs

• Brand Bias:
  Many public institutions prefer allocating to established brands as a career-safe choice, rather than optimize for long-term alpha.
  • "Nobody gets fired for... buying IBM... it's the same with these major GPs." (18:59, Greg Brown)
• Consultant Bias:
  Reliance on consultants amplifies allocation to large, established funds.
• Resource Gaps:
  Public pensions often lack the staff and bandwidth to underwrite smaller or first-time managers; sophisticated endowments/foundations are advantaged in smaller fund selection.

11. VC vs. Buyout: Picking vs. Being Picked

• VC:
  Success hinges on being picked by the best founders—relationship and reputation-driven.
  • "The evidence does suggest that VC is more of a relationship type of business... that's why the performance persists in venture." (20:16, Greg Brown)
• Buyout:
  More focused on picking deals; skill needed for value creation and price discipline, especially as most big buyouts now transact via auctions.

Notable Quotes & Memorable Moments

• On the fundamental problem with private market data:
  • "We don't observe returns for private assets. You observe things that sort of look a little bit like returns... those are not market prices. And we know that net asset values are smoothed." (01:35, Greg Brown)
• On relative performance of buyouts:
  • "Buyout funds have a market beta that seems to be about the same as the market... empirically... you pretty much always get a beta of one." (04:02, Greg Brown)
• On venture's risk-adjusted return:
  • "Venture has had higher returns on average than buyout funds... on a risk adjusted basis, there's less alpha, essentially zero alpha in Venture." (07:04, Greg Brown)
• On fund size impact:
  • "The average return for smaller funds was higher than for big funds. But that was driven by dispersion... there's just a much bigger right tail in smaller funds." (14:49, Greg Brown)
• On LP behavior:
  • "There's very low risk for people who have little upside in their careers to... take the big established brands. And... public pensions... just don't have the... resources that it takes to go out and do diligence on a large number of relatively small or new GPs." (18:59, Greg Brown)
• On VC vs. buyout dynamics:
  • "The founder picks the VC and buyout is about picking. So there is actually the skill of picking where venture... the skill is actually getting picked." (20:01, David Weisburd)

Timestamps for Key Segments

• [00:00 – 00:48]: Why alternatives are under-researched
• [01:22 – 02:46]: Data issues in measuring private market returns
• [02:09 – 03:44]: Kaplan-Shor PME and risk-adjusted comparison explained
• [04:02 – 07:33]: Research findings—buyouts vs. venture, beta, and alpha
• [09:23 – 10:29]: Risk of ruin, why high beta can be catastrophic
• [12:06 – 13:17]: International vs. US private equity and benchmarks
• [14:49 – 16:41]: Impact of fund size, dispersion, and practical LP guidance
• [16:41 – 18:59]: Persistence of returns, talent mobility, LP/consultant incentives
• [20:16 – 21:53]: Relationship-driven venture vs. skill-based buyout
• [22:26 – 24:40]: Private equity vs. Mag 7, lessons from bubbles, and periods of divergence
• [25:24 – 26:15]: Valuation bias, current market, and prudent portfolio choices

Takeaways for Institutional Investors

• Don’t conflate NAV smoothing with true risk-adjusted returns; use PME or similar methods.
• Assume minimal skill premium among mega-funds; focus diligence on small fund selection.
• Consider individual deal partner track records in buyouts.
• Use local benchmarks for accurate performance assessment of international managers.
• Be wary of career and consultant biases—alpha often lies where extra diligence is required.
• Recognize persistence in VC is about being chosen due to relationships, not just picking skill.

This episode is a clear, data-driven masterclass on how to approach, benchmark, and interpret returns in private markets—crucial listening for LPs, CIOs, and anyone involved in institutional alternatives allocations.