Unleashing the Illusions of the Illiquidity Premium in PE Funding: Is the Public Market a Better Bet?

A recent assessment made by Steven Meier, the chief investment officer of New York City’s $280 billion pension fund system, has given the industry reason to pause. His shocking revelation that the city’s Employees Retirement System (NYCRS) - the second largest of its kind - with approximately $8.6bn invested in PE funds, has lagged behind the Russell 3000 index by 300 basis points over a decade.

This astounding data led officials, stakeholders, and observers to revisit the age-old debate on the existence of the illiquidity premium in private equity. After all, locking up enormous sums of capital into illiquid funds should ideally offer higher returns than investments in the stock market, as per conventional wisdom. However, the cold, hard data coming out of NYCER seems to contradict this commonly held belief, causing many to question: Is the game even worth the cost?

Various factors affect such comparisons. The performance of the public equity market plays a significant role in determining the profitability of the private equity sector. Also, the performance metrics of the public equity market, being recorded daily, often present more volatility than quarterly reviews for the private equity market. The latter’s performance, thus, gets calibrated to the backward-looking quarterly reviews.

While at first glance the data is bewildering, there’s still support for the power of private equity. PitchBook’s Private Capital Indexes, despite the recent challenges related to lower exits, fundraising, and the distribution to limited partners, have a historical trend of outperforming the public markets. Yet, with these recent revelations, investors are forced to reconsider the role of private equity in their portfolios. Though contemplating the past decade’s data might seem bleak, the success of PE is ultimately dictated by the right mixture of choosing apt managers, smart investment strategies, and sound fee structures.