Managing Private Fund-Based Portfolios: A Search for Rebalancing Strategies

Abstract

Private fund-based portfolios present significant exposure-and liquidity-management challenges, because committing new funds and conducting secondary sales both have complex relationships to eventual exposure levels and net cash flows. This article presents a framework for evaluating candidate rebalancing strategies within the context of organizational objectives and concerns. It explicitly acknowledges the usefulness of secondary sales, and of modeling cash flows as stochastic processes. The author finds that simple commitment and sales rules that essentially depend only on distance from the target work reasonably well, but that the precise formulation of these rules depends on the specific situation. Institutions that value adherence to policy targets over other concerns will gravitate toward a rebalancing strategy that involves highly responsive commitment and sales rates, both when starting from zero and when overallocated. But for institutions that are less concerned with adherence to policy targets, optimal rebalancing strategies depend on the formulation of the initial problem. In cases of overallocation, even these patient organizations may need highly responsive sales rules to correct the overexposure within a reasonable time.

TOPICS: Portfolio management/multi-asset allocation, statistical methods, volatility measures