Private Equity Performance and Liquidity Risk

This is the first study to show evidence of liquidity risk in private equity returns.Our data contains cash flows for 4,403 liquidated investments, which are both successfuland unsuccessful, reducing sample selection bias to a minimum. We find that a onestandarddeviation positive shock in aggregate liquidity raises returns by 6% to 12%annually, depending on the liquidity measure. Larger investments and investments bymore mature private equity firms have returns that are more sensitive to liquidity shocks.This is also the first paper to provide a large-sample estimate of the cost of capital forprivate equity. Using the Pastor and Stambaugh (2003) traded liquidity factor, theliquidity risk premium in private equity is about 3% annually, the total risk premiumfor private equity is about 18% annually, and alpha (before fees) is close to zero.[...]