Uncovering the Public and Private Components of Private Debt Returns

We investigate private debt fund returns, disentangling them into a publicly traded and a private component. Studying their time-series and cross-sectional properties, we find a significant private debt premium of around 1.6% per quarter. Fund returns are negatively skewed and have long exposure to high yield bonds and stocks and short exposures to investment grade bonds, together explaining up to 70% of return variation. Regressing the private debt premium on its factor loads in the cross-section of individual funds, the pure private return component amounts to 2.2%, on average, and is negatively affected by exposures to all traded factors. Return skewness is largely driven by exposures to traded factors and explained by higher downside-betas than upside-betas. We find a positive tradeoff between negative skew and mean returns and a reward-to-expected shortfall ratio that is more favorable for private debt funds, compared to the traded portfolios, by a factor of ten.