The core role of private markets
in modern portfolios

Mar 20, 2019
By BlackRock Investment Institute

Making effective use of private assets is increasingly important for institutional investors. Our work indicates that many of them have room for relatively large allocations, depending on risk tolerance and their specific objectives. With private equity in particular playing a key role in many portfolios, we also offer a new method of estimating PE returns.


  • The potential premium earned in private markets may be more closely tied to complexity and higher governance costs than to illiquidity, we believe. We study private equity allocations and simulate cash flows around the 2007-2009 global financial crisis and find that only investors with high spending needs would have run into liquidity troubles.
  • We find the appropriate private markets allocation can range from 10% to 40% of the portfoliodepending on individual investor objectives, conviction in the ability to pick top-performing alpha-seeking managers, risk tolerance and annual cash flow needs. Allocations could be higher for investors with fewer constraints.
  • We believe our new approach to expected returns for private markets is a step forward. For private equity, we use the returns embedded in current valuations given the level and cost of debt, as well as fees. We also model for uncertainty within these expected returns, resulting in more realistic allocations, in our view.
  • Some private market assets are as vulnerable to late-cycle excesses as public markets, in our view. Concerns have mounted about such valuation excesses building because private markets are less visible and may receive less scrutiny. We address ways of dealing with downside risks through the use of uncertainty – an explicit acknowledgment that any point return assumption can be spuriously accurate.

Understanding liquidity risk

We define liquidity risk as the likelihood of failing to meet a fund capital call or on other obligations because one runs out of cash. To quantify this risk, we performed a simulation based on a historical period of market stress – the global financial crisis. The simulation assesses how much an investor can allocate to private markets before running into problems meeting total portfolio spending requirements and capital calls from funds.

We assess an investor's liquidity needs across a range of key variables that impact their outcomes: the allocation to private markets, the annual spending requirements of the overall portfolio, the bond-equity mix among public market investments (assuming they are easy to sell), the diversification within their private markets portfolio and the age of the programme.

The results in the chart below are striking. The area in green shows that many investors could make relatively large allocations to private markets before liquidity constraints start to bite. Only investors with high spending needs – 8% of the portfolio or higher per year – would have ended up with potential allocations below 20%. This suggests that the ceiling for private market allocations may be higher than is often assumed – and may be even higher if the private markets allocation tilts towards income-earning assets.

Assessing liquidity risk

Hypothetical maximum allocations to private markets depending on annual spending needs, March 2019

Private Markets

This information is not intended as a recommendation to invest in any particular asset class or strategy or as a promise – or even an estimate - of future performance. Source: BlackRock Investment Institute, March 2019. Notes: The chart shows different ranges for maximum allocations to private market assets depending on a hypothetical portfolio’s annual spending needs, expressed as a share of the overall portfolio. The “conservative“ zone shows the range of maximum allocations can start at 60% with no spending needs and falls to zero when spending needs reach 10% per year. The “caution" zone shows where maximum allocations would start hitting a 5% risk threshold described above. “Danger" is the zone where the maximum allocations result in a greater than 5% probability. We assume quarterly liquidity needs on the public assets. Annual liquidity needs would reduce the allocation to private markets. See the appendix for full methodology.

Jean Boivin
Global Head of Research, BlackRock Investment Institute
Jean Boivin, PhD, Managing Director, is Global Head of Research for the Blackrock Investment Institute and is a member of the EMEA Executive Committee.
Chief Investment Officer and Global Co-head, Alternative Solutions Group, BlackRock
Portfolio Research, BlackRock Investment Institute
Julia Wittlin
Senior Portfolio Manager, BlackRock Private Equity Partners
Julia Wittlin, CFA, CAIA, FRM, Director, is a portfolio manager within BlackRock Private Equity Partners (PEP) group within BlackRock Alternative Investors. Ms. ...