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Dan Feder discusses the return and diversification benefits of private markets assets.
Key Takeaways
- Dan Feder leads PE and VC investing for University of Michigan's endowment and emphasizes the benefits and portfolio impact of these asset classes.
- Private assets - particularly venture capital and private equity - have the highest risk-adjusted returns, so can be very additive to portfolios.
- Private assets dampen volatility on the surface - though much of this is from not marking-to-market
- However, they can provide diversification to portfolios in so far as much of the value they generate is derived from active management of the assets (cost cutting, strategy overhaul, etc.), which is a source of alpha uncorrelated to public markets.
Transcript
My name is Dan Feder, and I lead private equity and venture capital investing for the University of Michigan's Endowment pool. The University of Michigan endowment currently stands at about 17 and a half-billion dollars. Private markets within an endowment program really play a role of return enhancement at the end of the day. Historically, the highest bang for the buck has been in venture capital and then private equity and working its way down through other asset classes, and that makes a lot of sense.
Those are the regions in which uncertainty is highest, and risk is highest. The dispersion of returns in venture capital is the broadest among all investment classes. Private equity is next, and natural resources are next in them—real estate and so forth. The dispersion is where you want to play, and that's where if you're well-positioned again, you have an opportunity to get the most bang for your buck, plus or minus.
Having private markets investments in a portfolio, on the face of it, will reduce volatility because there are valuation or mark to market lags. But that's really sort of a false dampening of volatility. And what we're trying to do, if we sort of pull way back, is with private markets, we're trying to reach investment opportunities that are not otherwise reachable through more liquid means.
So people generally talk about private markets or private equity, or venture capital. Oftentimes they speak of it in terms of what sort of diversifying elements do those areas of investing bring to a portfolio, and there is some diversification that comes from investing in private markets, really by virtue of the fact that we are trying to reach or we do reach investment that we wouldn't otherwise see in a portfolio.
So by definition, they are diversifying, but they aren't diversifying in the way that many people think of diversification. They're diversifying because they also bring different drivers of return. And in some cases, those are less correlated to public markets. But the diversification is just a very different sort of a proposition. And the diversification really comes as we implement it or as I think about it from factors that are more endogenous to investments than exogenous. So by that, I mean they're endogenous in the sense that ownership of the assets, ownership of the companies influence on the companies is more within the control of the investor. And so, therefore, outcomes are more within the control of individual investors, not in isolation for the market or independent for the market, but in concert with the market. The real impact is around the potential for increased returns.
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