Private markets have become integral to modern portfolios, with many investors searching for higher returns and diversification, including from public markets. But recent fund redemptions have reinforced that illiquidity isn’t theoretical, raising questions about the benefits of giving up liquidity. We see several—but investors must understand the trade-offs.
Private Credit: A Case Study in Private Markets
To better understand the trade-offs among liquidity, market exposure and manager-specific returns, we analyzed private credit. We think it’s ideal for this analysis because its underlying economic exposures can be reasonably compared to public credit markets. Private credit also has multiple market structures that let us observe these exposures. They typically have the same underlying economic engine but different liquidity and pricing frameworks.
We used statistical analysis to compare performance patterns, making adjustments because private assets are priced infrequently and often reflect market movements with a delay. The results indicate that private credit moves with broader credit markets but not to the same extent as many public investments. This pattern was consistent across private credit indices as well as non-traded and publicly traded business development companies.
The Private Credit Alpha Equation
So how much market risk are investors really taking in private markets? And how much of the return is driven by alpha or manager skill?
The research suggests that market factors explained less than half (Display) of what drives long-term private credit returns. The rest seemed tied to non-market factors, which could include underwriting quality, manager decisions, applying leverage, sourcing and portfolio construction.
So, it seems that private credit is neither pure alpha nor simply “hidden beta.” Instead, it appears to represent a hybrid structure, with systematic market exposure, illiquidity premia and manager-specific outcomes all playing meaningful roles.
