Largeco pension plan begins investing in VC funds in 2006. They commit to a few new funds
Question:
Rt – 2Rft = α + β(Rmt – 2Rft) + eit;
where Rt is the realized quarterly return on the VC portfolio, Rft represents the risk-free rate for borrowing and lending, Rmt is the realized return on the market portfolio, β (beta) is the regression slope coefficient, α (alpha) is the regression intercept, and eit is the regression error term. All variables are measured quarterly with time periods given by t. The regression produces statistically significant estimates of β = 50.75 and α = 57.50 (annualized), with an R2 of 0.32. Members of your staff—Albert, Bonnie, Chris, Dave, and Ellen—raise several concerns with these results. As the Chief Investment Officer, you must evaluate these concerns. Which ones (if any) are valid? Which ones (if any) are invalid? For the valid concerns, is there any possible fix?
(a) Al thinks that the estimated alpha is too high because of survivor bias.
(b) Bonnie thinks that the estimated beta is too low because of a stale value problem.
(c) Chris thinks that this model does not properly adjust for the high probability of failure for VC investments.
(d) Dave thinks that this model does not properly adjust for the illiquidity of VC investments.
(e) Ellen thinks something else is wrong, but she can’t put her finger on it.
Portfolio
A portfolio is a grouping of financial assets such as stocks, bonds, commodities, currencies and cash equivalents, as well as their fund counterparts, including mutual, exchange-traded and closed funds. A portfolio can also consist of non-publicly...
Fantastic news! We've Found the answer you've been seeking!
Step by Step Answer:
Related Book For
Venture capital and the finance of innovation
ISBN: 978-0470454701
2nd Edition
Authors: Andrew Metrick
Question Posted: