Risk-adjusting the returns of private equity using the CAPM and multi-factor extensions

Abstract

This paper develops a novel Public Market Equivalent (PME) measure to evaluate the risk-adjusted performance of private equity investments using the standard CAPM and multi-factor extensions. Using a comprehensive sample of 7732 fully realized venture capital investments, the paper estimates PMEs using the standard CAPM, the Fama–French three-factor model, and a four-factor model that also includes the Pastor–Stambaugh traded liquidity factor. The results highlight that venture capital investments substantially outperform traded stocks and that their returns resemble those of small growth stocks. Additionally, the results show that the exposure of venture capital returns to the traded liquidity factor is negligible.