CAIA L2 - 7.5 - The Risk and Performance of Private and Listed Assets

Question 1

Define

2 forms of
Asset illiquidity

7.5 - The Risk and Performance of Private and Listed Assets

Answer 1

time needed at fair prices
price if done quickly

(1) the time needed to close the position if the price is unaffected
(2) the price at which the position is closed if it must be done quickly

7.5 - The Risk and Performance of Private and Listed Assets

Question 2

Compare and explain

Unlisted x Listed
Real Estate
performance

NCREIF Property Index (private)
x
NAREIT All Equity Index (public)

7.5 - The Risk and Performance of Private and Listed Assets

Answer 2

NCREIF Property Index (private)
< 250bps annualized (25y)
NAREIT All Equity Index (public)

1 main factor:
* Higher fees of Private

Other factors:
* leverage
* risk

Obs:
on a risk-adjusted basis, private real estate does not seem to offer illiquidity premiums

7.5 - The Risk and Performance of Private and Listed Assets

Question 3

Formula

Interim Internal Rate of Return (IIRR)

7.5 - The Risk and Performance of Private and Listed Assets

Answer 3

PV of Distributions + PV of contributions + PV of NAV = 0 (using i = IIRR) ; NAV replacing final distribution:
∑D/(1+IIRR)−∑C/(1+IIRR)+NAV/(1+IIRR)=0

7.5 - The Risk and Performance of Private and Listed Assets

Question 4

Formulas

Distribution to paid-in (DPI) ratio
Residual value to paid-in (RVPI) ratio
Total value to paid-in (TVPI) ratio

7.5 - The Risk and Performance of Private and Listed Assets

Answer 4

Distribution to paid-in (DPI) ratio. Cumulative distributions to investors relative to the total capital drawn from investors. DPI captures the realized return.
DPI = ∑D / ∑C

Residual value to paid-in (RVPI) ratio. Total value of the unrealized investments (measured by NAV) to the total capital drawn from investors. RVPI captures the unrealized return.
RVPI = NAV / ∑C

Total value to paid-in (TVPI) ratio. Cumulative distributions to investors plus total value of unrealized investments to the total capital drawn from investors. TVPI captures both the realized and unrealized return.
TVPI = DPI + RVPI
TVPI = (∑D + NAV) / ∑C

7.5 - The Risk and Performance of Private and Listed Assets

Question 5

Formula

PME ratio

7.5 - The Risk and Performance of Private and Listed Assets

Answer 5

PME ratio compares cash flows in the future (FV; at time “T”)

PME ratio = [ FV(D) + NAV ] / FV(C)

FV(D)=FV(distributions) =∑ [ (Dt×I) / It ]
FV(C)=FV(contributions)=∑ [ (Ct×I) / It ]

EXAMPLE: PME Ratio

Assume a PE investment has the following cash flows from
years 1 to 3:
−200, +150, +175
The Year 3 NAV of the fund is 100.

Also assume over the same period that a public equity index has values of
240, 280, 260

Calculate the FV(D), FV(C), and PME ratio over the three-year period.

Answer:

FV(D) = [150 × (260 / 280)] + [175 × (260 / 260)] = 314.29

FV(C) = 200 × (260 / 240) = 216.67

PME ratio = (314.29 + 100) / 216.67 = 1.91

A PME ratio higher than 1.0 indicates out-performance relative to the public market.

7.5 - The Risk and Performance of Private and Listed Assets

Question 6

Explain

3 ways
to calculate
IRR / IIRR for a portfolio
(of assets in a PE fund)

7.5 - The Risk and Performance of Private and Listed Assets

Answer 6

Equally Weighted IRRs or IIRRs: average of IRR

Commitment-Weighted IRRs or IIRRs: commitment weighted average of IRR

Pooled Cash Flows for Weighting IRRs or IIRRs: Generate one cash flow and calculate IRR

7.5 - The Risk and Performance of Private and Listed Assets

Question 7

3 key empirical findings
regarding
PE fund performance

7.5 - The Risk and Performance of Private and Listed Assets

Answer 7

1. Performance of venture > buyout
2. Out-performance and persistence for PE funds: before 2000 > after 2000
3. Early-year venture capital = good risk-adj return; risk-adj PE = low.

7.5 - The Risk and Performance of Private and Listed Assets