Dealing with non-normality when estimating abnormal returns and systematic risk of private equity: A closed-form solution

Abstract

Listen

Translate article

The paper develops a novel econometric approach to estimate abnormal returns and systematic risk of private equity from observable investment cash flows. The unique features of the method are that it provides closed-form estimators and that it employs a generalized CAPM, which accurately takes into account that private equity returns typically deviate from a normal distribution. The methodology is validated using numerical examples and is applied to a comprehensive sample of 12,565 portfolio company investments by private equity funds. The results highlight that ignoring coskewness of private equity returns can result in biased estimates of abnormal returns and systematic risk.