Public vs Private Markets

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by an investor from University of California, San Diego
in San Diego, CA, USA

1yr ago

Public vs Private Markets

I've been a stock market hobbyist for 30 years, just starting to invest in private investments. A recent post on search returns got me thinking explicitly about the tradeoffs between investing in public equities and private (accredited) investments like search. Here is my thinking on the pro/con, I'm very curious to hear the thoughts of the community.

On the stock market, I firmly believe Burton Malkiel's conclusion in 'A Random Walk Down Wallstreet' that you can easily make money in stocks, but you can't beat the market on a risk adjusted basis. This is because there is an army of brilliant analysts and traders working 100 hour weeks seeking any advantage they can find in information, then leveraging up to squeeze every possible dollar out of that advantage.

The private markets offer high returns and a high degree of risk. The question is, can you beat the market by developing your own information advantage in the form of investing in good opportunities and rejecting bad ones? Are there other reasons like illiquidity and limited capital availability that actually creates a premium return in private markets?

Public Market Advantages:

Liquidity
Simple Diversification with an Index Fund
Low Risk of Fraud

Private Market Advantages

Low Price to Earnings Ratios on Acquired Companies
Reduced Competition for Investment Opportunities
Ability to Impact Businesses you are invested in

Public Market Disadvantages

High Valuations Create Risk
Very Competitive for Investors

Private Market Disadvantages

Illiquidity creates cash drag waiting for investment opportunities
Overhead from legal and financial review
Potential for Fraud

Based on these it seems like public markets hold most of the cards, unless the private markets can return significantly better. This makes it compelling to invest in the private markets....but do they really offer better overall returns?

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reply by an investor 1yr ago
from University of California, San Diego in San Diego, CA, USA

Tony - do you think that the risk is really a public/private thing, or do you think it has more to do with company size? Certainly smaller companies are more likely to go to zero, but a large private company I wouldn't think is inherently riskier than a large public company.

reply by a searcher 1yr ago
from Massachusetts Institute of Technology in San Francisco, CA, USA

Private markets have matured significantly in the past 10 years, coinciding with a huge expansion of the size of private funds across the board.

The thesis you describe behind private market information advantage is literally what every private market, VC, or other fund touts. Why would anyone invest their own money if they didn't think they could generate an above-average risk-adjusted return?

Matt Levine's "Money Stuff" discusses this dynamic often and in depth.

In general - with private markets - most people on here are unlikely to have access to the best private investments, because they're gate kept by the large funds with rich LPs.

Finally, of course there are tons of great private market opportunities on the edge of the market if you're willing to bet, invest, or do something better. That's the whole fundamental premise of capitalism.

But just consider that ~3-5% of all Russell 3000 index companies drove most of the return for that entire index.

How confident are you that you can find, pick, generate, or drive that 3%?