Have you ever wondered how much private equity or venture capital you should hold in your portfolio? Some advocates of private assets investing argue for relatively high amounts, up into the 30% of an entire portfolio, but those types of investor have long investment horizons and a portfolio tolerance for illiquidity.

One example, which we have written about recently are endowments, as exemplified by the Yale model pioneered by David Swensen. Here, the top US university endowments – the likes of Yales, Harvard and Princeton – have since the 1980’s held up to a third of their portfolio assets in private assets such as private equity, and the performance of their approach has become famous.¹ It is fair to say that these top flight institutions have also had the benefit of large, specialised investment teams and privileged access to the very best private equity funds.

‍Portfolio optimisation 

A more typical finance led approach to determining the composition of any portfolio is portfolio optimization — this may sound dreadfully boring and dry to our readers, and it is, but it is a process that is as important financially as the annual medical checkup is from a healthcare point of view.

The idea of portfolio optimisation is to first gauge an investor’s tolerance for risk (i.e. what degree of asset price fluctuation they are prepared for, and the headline levels of expected return and risk they have in mind). Granted this, the optimisation process will produce a combination of assets that together, will deliver the appropriate level of return in the long run, given risk appetite.

This is where it gets complicated.

First, in a portfolio, it is important to have a mix of assets that are not correlated — that is, they don’t move the same way given underlying economic conditions. In most cases, correlation can be observed over time, and even modelled for different segments of the business cycle.

For example, it is intuitive that equities would rise in a business cycle recovery, whereas government bonds might be flat to weaker in terms of performance. But those bonds are worth having as a safe haven in times of market and economic stress.

The second difficult element is trying to get a handle on how different assets might perform in the future. As a benchmark, historical returns can be helpful, and for those readers who are interested there are some decent databases of long run stock and bond returns, from the likes of Jeremy Siegel at the University of Pennsylvania and Nobel Laureate Robert Shiller. 

Perhaps the most comprehensive is the work of Professors Elroy Dimson and Paul Marsh whose Investment Returns Yearbook² publication is widely followed. They extensively research the performance of different asset classes over time and over 120 years find that the average real return on US equities is just over 5%.

In that regard, historic and periodic analysis of returns offers strategists a good benchmark and are always helpful when setting investor expectations for future returns. Forecasting future returns involves more work, and can be a lengthy process. It requires long-term forecasts (often for different growth scenarios) for GDP, inflation, profit growth and interest rates to name a few variables.

On Capital Market Assumptions

A good number of the large investment institutions now undertake this process — which in the industry is called ‘Capital Market Assumptions’ (CMA). Much of their research material is available publicly and we have examined the CMA’s of fifteen different institutions from Blackrock to Amundi to JP Morgan.

In brief, across the fifteen institutions, cash is expected to generate a 2% return over the next ten years, 6% for world equities and European government bonds for instance are expected to generate an average return of 3%. Private equity is expected to come in higher, at close to an average return of 9% over the next ten years.

Investor types and portfolio construction 

The next step for portfolio strategists is to take this spectrum of expected returns (and risk) and blend them together to produce a portfolio that gives specific investors the best return for a given amount of risk.

Some of the institutions we have flagged here have done this — one thorough example comes from the Blackrock Investment Institute³, who have done this for different types of investor (who have different aims and risk appetites). 

For example, for a European family office Blackrock highlights a portfolio allocation of Fixed income (19%), Equities (29%), Private markets (33%), Hedge Funds (8%), Cash (10%), Commodities (1%).⁴

For a UK charity a sample allocation might look like Fixed Income (15%), Equities (63%), Private Markets 17%, Hedge Funds (5%).⁵

These are merely sample allocations but they give a sense how portfolios are formed. 

A closer look at private market portfolios 

It’s worth noting that historically, only institutions and the wealthiest could enjoy access to a full suite of asset classes, while most individuals were largely restricted to public equities, bonds and real estate.

However, this is now rapidly changing with solutions like Moonfare’s opening up the alternatives space to a wider audience.

As this trend accelerates, we are also seeing more data on how individuals incorporate private assets into their portfolios.

Our recently published research, for example, found that between 2020 and 2023, an average individual investor on the platform allocated 52% of their ‘Moonfare portfolio’ to buyout funds, 25% to growth equity and 10% to venture capital. The remaining investments were spread across secondaries, private credit and infrastructure.

Moonfare investors are also notably well exposed to private market assets. Roughly 26% have allocated between 21% to 50% of their total portfolio to private markets, in addition to around a fifth with a 16% to 20% share.

Important notice: This content is for informational purposes only. Moonfare does not provide investment advice. You should not construe any information or other material provided as legal, tax, investment, financial, or other advice. If you are unsure about anything, you should seek financial advice from an authorised advisor. Past performance is not a reliable guide to future returns. Don’t invest unless you’re prepared to lose all the money you invest. Private equity is a high-risk investment and you are unlikely to be protected if something goes wrong. Subject to eligibility. Please see https://www.moonfare.com/disclaimers.