Cliff Asness Questions Whether Investors in Private Equity Are Being Rewarded — or Penalized — for Taking Illiquidity Risk

Cliff Asness has some complaints about private equity managers. 

In an hour-long Morningstar podcast, the AQR co-founder questioned whether private equity firms could really earn excess returns compared with public securities. Private equity funds, which can’t be easily sold, should reward investors with an illiquidity premium, he said.

Asness also asserted that the low volatility of private equity is nothing but a mirage. Unlike public stocks, private equity funds aren’t marked to market every day, which, by definition, implies lower volatility. “It’s a mathematical fact that I resent,” Asness said, adding that the valuation of private assets usually comes with a “big lag.”

In a recent tweet, Asness called this phenomenon “Volatility Laundering.” He admitted, however, that some investors are attracted by the low volatility — even if it is an illusion. “The amount people will pay to an industry to make decently less than a moderately levered S&P 500 index fund, so they don’t have to watch the S&P 500 index fund, is staggering,” he wrote in the same tweet. In a 2019 AQR blog, he wrote with mixed feelings that private equity’s “big time, multi-year illiquidity and its oft-accompanying pricing opacity may actually be a feature, not a bug!” 

With AQR focused on the public markets, it’s not surprising Asness questions the concealed volatility of private equity. AQR suffered painful losses from 2018 to 2020, with its equity market neutral strategy posting negative returns for three consecutive years. In 2020, as Institutional Investor previously reported, the firm liquidated some mutual funds after persistent capital outflows. “If we were private equity, none of it [would have happened],” Asness said in the podcast. 

He added that private assets are being “more prized today, at least on a relative basis compared with the past.” Private equity managers are hiding illiquidity risks “with open eyes,” he said. “People used to be paid a premium [for investing in PE], and they’re now giving up something to be in it versus the similar aggressive equity portfolio.”  

Others are also challenging private equity. In a press briefing on Wednesday, Amundi’s chief investment officer Vincent Mortier said that “some parts of private equity look like a pyramid scheme” as assets change hands at swollen prices in sponsor-to-sponsor deals. Mohamed El-Erian, president of Queens’ College, Cambridge, also wrote in a Financial Times op-ed this week that private markets aren’t a haven for investors seeking stability. Private equity firms that tout themselves as such “may prove to [have] too much bravado and misplaced self-confidence,” he wrote.  

“Historically, revaluations [of PE assets] have tended to lag behind public markets by a minimum of six to nine months,” according to El-Erian. “Several of the factors that have recently undermined the public markets are also worrisome for private equity.”