Fund managers face a constant battle between two competing goals. On the one hand, we know that they generate alpha mostly with their highest conviction bets, which means that ideally, they should hold very concentrated portfolios. On the other hand, in a world of investment consultants and risk-averse investors, running highly active, highly concentrated portfolios leads to higher volatility and higher tracking error. To attract these risk-averse investors and make it past the screens of investment consultants, fund managers must hold more diversified portfolios that have fewer downside risks. Interestingly, there is one group of investment managers that is often overlooked in an analysis of the best tradeoff between generating alpha and diversifying risks: private equity managers.
Interesting! It sounds like as if the intention of the private equity folks was to construct a kind of barbell, i.e. 80% boring yet safe stuff, and 20% high-risk and sexy investments.
Could this be a product of marketing? I mean, isn't it just another way of saying, "I won't put your equity at risk, and at the same time I am so well informed that I will make a lof of money by discovering the next big thing"?
I think it is a combination of marketing and reducing career risk. After all, if you have only high risk/high return assets in your portfolio, you could also underperform massively and not be able to raise capital for future vintages.
Based on the findings of this study, I'd like to draw parallels with Hedge funds (especially the SMs).
Does early stage SM HF also tend to highly concentrate their portfolios with the highest esteemed conviction bets, in order to generate Alpha and expand their AUM?
Interesting! It sounds like as if the intention of the private equity folks was to construct a kind of barbell, i.e. 80% boring yet safe stuff, and 20% high-risk and sexy investments.
Could this be a product of marketing? I mean, isn't it just another way of saying, "I won't put your equity at risk, and at the same time I am so well informed that I will make a lof of money by discovering the next big thing"?
I think it is a combination of marketing and reducing career risk. After all, if you have only high risk/high return assets in your portfolio, you could also underperform massively and not be able to raise capital for future vintages.
I was also thinking about a sort of “illiquidity premium” that private equity managers could earn.
All my research indicates that the illiquidity premium is myth. No empirical evidence for it.
Based on the findings of this study, I'd like to draw parallels with Hedge funds (especially the SMs).
Does early stage SM HF also tend to highly concentrate their portfolios with the highest esteemed conviction bets, in order to generate Alpha and expand their AUM?