Background: In the financial world when trying to assess how risky an individual stock is, the common way to do this is by looking at the standard deviation of the price of the security. The more it varies from time to time, the higher the perceived risk. I've seen this measurement technique used the same way for Private Equity, where the Capital Account of the security is periodically updated to reflect the lower of the purchase price or the current value of the security. One of our financial advisors recently made the argument that a particular PE investment we had was actually lower risk than most of our public market stocks. I found this hard to believe and wanted to suggest some other ways of looking at Private Equity risk.
Private Equity Risk: The issue with PE risk is that the investment is not liquid. Its value is usually the lower of the acquisition cost, or of the most recent financing transaction. There is an inherent bias to try to keep from writing the value of investments down, since that would signal defeat and also invite within a PE firm, so more often than not, the value of a PE investment stays on the books at some arbitrary value for years. The fact that is doesn't have much, if any, standard deviation is not a measure of reduced risk, but instead just a reflection that there isn't a market for these securities and the valuation technique is sometimes inefficient.