Rethinking Core Holdings for a Private Equity Portfolio

Index Exposure vs Secondary Funds

Executive Summary

Secondary funds are often used as a proxy for private equity beta, but they may no longer provide the clearest expression of broad private equity exposure. Structural changes in the secondary market have led to reduced diversification and a less attractive risk-return profile, both of which had initially motivated many investors to utilize secondary funds as core portfolio holdings. Many secondary strategies now emphasize pricing, leverage, and structural IRR enhancements, rather than broad market participation. Diversification benefits are often less impactful than commonly assumed, especially given the expansion of GP-led transactions and fee layering, which can impact net, risk-adjusted outcomes. This paper seeks to demonstrate that investors seeking true “foundational exposure” to the private equity asset class may benefit from an indexing approach as an alternative to the “traditional” secondary fund approach.

Why Secondary Funds Became a Common Entry Point

Secondary funds emerged as a practical solution to several structural challenges that wealth managers face when incorporating Private Equity (PE) into client portfolios. For many allocators, including wealth managers, institutions, and semi-liquid funds, direct primary fund programs are difficult to implement due to long deployment periods, limited visibility into deal origination opportunities at commitment, and the operational burden of managing a multi-vintage program.

By contrast, secondary funds offer a more immediate and accessible entry point. Secondary managers typically target visible and mature portfolios of underlying assets, leading investors’ capital to be deployed more quickly than their primary fund investments. As a consequence, secondary underwriting seeks to mitigate blind-pool risk and emphasizes pricing discipline. Secondary portfolios also appear to offer broad diversification across managers and vintages, an attractive feature for clients seeking private market exposure without building a complex, long duration program from scratch via multiple single commitments to individual funds over several years. Finally, the earlier and more predictable distributions that are expected from secondary funds have been appealing for clients with liquidity needs.

Viewed in this context, the widespread adoption of secondary funds by a broad range of investors was a rational response to genuine implementation constraints. At the time, secondaries offered a simplified way to gain broadly diversified exposure to PE while addressing many of the obstacles associated with primary fund investing.

What Has Changed in the Secondary Market

The structure of the secondary market has evolved significantly over the past decade, altering the characteristics that previously justified its perceived advantages. While secondary funds continue to play an important role in private markets, the sources of return and diversification have shifted in ways that warrant closer examination.

One of the most notable changes is that the significant capital raised by secondary funds has led to increased competition and compressed pricing across much of the secondary market. Discounts to reported Net Asset Value (NAV), which historically contributed to return enhancement and downside protection, have narrowed in recent years,^[i] leading performance to become more dependent on the future growth of underlying assets rather than on structural pricing advantages at purchase.

In recent years, exit activity across PE has been below historical norms. As a result, a growing number of primary PE funds now hold very mature portfolios (representing above average holding periods) with elevated unrealized values. This has direct implications for the secondary market. When secondary investors acquire these positions, they are typically buying exposure at today’s prices, which may be at or near prevailing NAV, rather than participating in the earlier stages of asset development at lower valuations.

Although secondary portfolios may show exposure to primary funds across multiple vintage years, the mature underlying assets are seemingly positioned for exit over similar time horizons and under similar market conditions due to the lower volume of recent exit activity relative to historical norms. This creates a clustering of exit timing risk that is not readily apparent from vintage labels alone. Outcomes may be more correlated than expected, particularly when exit markets become more hospitable and realizations are likely to occur within a relatively narrow window.

Taken together, these developments do not render secondary funds ineffective. However, they do suggest that the structural features that once differentiated secondaries from other forms of PE exposure are less pertinent than in prior cycles.

Reduced Diversification in a GP-Led Market

Secondary funds are often described as diversified by construction, but the composition of that diversification has shifted as GP-led transactions have grown to be a significant source of secondary deal flow. What once reflected broad exposure across many underlying funds increasingly reflects concentrated exposure to assets selected and structured by sponsors to attract investment by secondary funds in their continuation vehicles.

Continuation vehicles typically hold one or a small number of assets transferred from a sponsor’s existing fund. As these transactions have scaled, many secondary fund portfolios have become more concentrated, with a limited number of positions accounting for a meaningful share of value and risk. While this structure can provide deeper visibility into individual assets, it can also reduce diversification at the portfolio level relative to traditional LP-led secondary portfolios that are often comprised of many small fund interests.

_{Source: Jefferies, Global Secondary Market Review, H1 2025.}

Asset selection in GP-led transactions further differentiates this exposure from broad market participation. The assets available for purchase are primarily chosen by the sponsor based on fund-specific considerations, such as the need to address longer than expected holding periods, capital requirements to support ongoing value creation, or other portfolio management objectives. As a result, secondary investors are increasingly exposed to a curated subset of assets rather than to a more broadly diversified portfolio of PE assets.

In this context, diversification should be considered through multiple lenses. Historically the number of transactions completed was sufficient, but increasing scrutiny should now also be applied to the distribution of risk across underlying managers, funds, portfolio companies and other relevant decision makers. As GP-led exposure increases and primary fund of funds expand into secondary investing, portfolio outcomes become more sensitive to sponsor behavior and individual asset trajectories, rather than to the broad performance of the PE market.

Defining Private Equity Beta

PE beta is best understood as the pooled, weighted outcome of managers, strategies, and vintages over time. It reflects the aggregate return of the asset class, driven by long-term value creation across thousands of underlying investments. Data providers such as Preqin and Burgiss calculate pooled PE returns by aggregating and weighting cash flows and valuations across all funds on a vintage year-by-vintage year basis. While conceptually sound, this pooled return is not directly investable or replicable and carries limitations: timely and accurate data is difficult to collect since it is generally reliant on GP self-reporting and, in some cases, on freedom of information requests permissible in certain jurisdictions, all of which can lead to delays and inconsistencies in published return data.

A proxy for the pooled return is the actual capital-weighted average performance of the 50 largest funds in a given vintage year, since it has historically closely emulated vintage year pooled returns with relatively minimal tracking error. This approach benefits from more reliable, consistent and timely data reported by GPs directly to their LPs. Importantly, an approach like this is replicable.

Evidence suggests that sustained outperformance in PE is difficult to achieve for both GPs and LPs. Alpha is generally unevenly distributed and concentrated among a minority of managers; the managers in this outlier group also often vary from year-to-year. For many allocators, returns are driven primarily by broad participation in the asset class rather than by transaction timing or deal selection.

In this context, investors seeking exposure to the returns of the overall PE market, may consider accessing PE beta directly via an index that invests in the 50 largest PE funds in each vintage, rather than taking the risks which are now embedded in recent secondary funds.

Performance Optics: IRR vs Wealth Creation

Secondary funds frequently report attractive Internal Rates of Return (IRR). Yet IRR alone can obscure the sources of performance. Structural features common to secondary investing can elevate IRR without necessarily increasing long term wealth creation.

Shorter holding periods can lead to increased IRRs by compressing the time between capital deployment and distributions. Additionally, the use of leverage at the secondary fund level can further enhance reported IRR. The additional layer of leverage used by secondary funds in an effort to improve returns has become more common as competition for and pricing of assets has increased.

While IRR measures the speed at which capital is returned to investors, it does not necessarily measure how much value is ultimately created. For long-term allocators, Total Value to Paid-In capital (TVPI) often provides a clearer measure of economic value. As shown in the chart below, pooled PE returns, representing the weighted average net return of the entire PE asset class on a vintage period-by-vintage period basis, have historically delivered higher TVPIs than secondary strategies, in part driven by longer holding periods that can facilitate exposure to a fund manager’s full primary value creation cycle.

_{Source: NewVest analyses using Preqin data (as of September 30, 2025) for secondary median TVPI and Burgiss data (as of September 30, 2025) for Pooled PE TVPI. Note that the capital-weighted performance of the 50 largest PE funds raised in each vintage year is used as a proxy for that vintage pooled PE return and is therefore shown for illustrative purposes only and does not represent investable benchmarks.}

This distinction is an important consideration for investors. A strategy that returns capital quickly but at a lower multiple may appear attractive in isolation, however, it results in less cumulative wealth creation over a full market cycle. Consequently, the magnitude of return, TVPI, should be considered with equal weight, if not higher, than the IRR.

Risk Repackaging in Secondary Structures

Secondary funds are often perceived as lower risk because they invest in mature assets. In practice, however, a meaningful portion of risk may be repackaged through pricing, fees, and valuation assumptions rather than eliminated.

One important but less visible source of risk arises from fee layering. In many secondary transactions and particularly GP-led deals, management fees, carried interest resets, and other fund-level economics are effectively embedded in the acquisition price rather than fully and transparently reflected in reported expense ratios. As a result, headline fee metrics of secondary funds may appear lower.

Valuation risk can further compound this effect. Secondary transactions rely on negotiated pricing rather than broad market discovery, with valuations informed by assumptions about future growth, exit timing, and financing conditions. In GP-led transactions, these assumptions are shaped by sponsors who are both sellers and continuing managers of the assets, introducing additional complexity around incentives and price setting. Small changes in exit assumptions or discount rates can therefore have an outsized impact on realized outcomes.

Risk-Adjusted Returns for Secondaries and Alternative Solutions

There is no universally accepted measure of return per unit of risk in private markets. One approach is to define risk as the dispersion of returns across funds within a given vintage year. On this basis, a return-to-dispersion ratio can be calculated by dividing the average vintage TVPI by the standard deviation of that TVPI, offering a comparative indicator of how efficiently different strategies convert market returns into realized investor outcomes.

The analysis shows that for each unit of cross-sectional risk, secondary strategies have historically delivered approximately 6 units of return. Some vintages and managers generated strong results, but others underperformed, producing dispersion around the average.

By contrast, the pooled return proxy exhibited 9 units of return per unit of risk. Outcomes clustered more tightly around the aggregate market result, resulting in higher return efficiency.

These findings imply that secondary funds are not the best investment vehicles for generating true PE market exposure and that secondary investing should therefore be considered a selection-driven strategy rather than a systematic expression of PE beta given that return outcomes varying meaningfully across managers.

Index Exposure as the Core Allocation

An index-based approach is designed to approximate the pooled return of the PE asset class, aggregating exposure across managers and vintages based on predefined rules rather than transaction-level selection.

In addition to expected outperformance relative to secondary funds, PE index exposure typically involves lower structural complexity and reduced fee layering as compared to secondary fund structures. For the reasons outlined above, alignment with the PE pooled return is more transparent, and outcomes are driven primarily by long-term value creation across the PE market and life cycle rather than by transaction-specific pricing, leverage, or timing dynamics. Over multi-cycle horizons, this structure can result in a more attractive risk profile and exposure to the full value creation life cycle in private markets.

Recent developments in investable index-based structures have made it possible to achieve more representative PE market exposure than via traditional secondary funds. Some index funds now also incorporate alternative liquidity mechanisms that can potentially shorten effective holding periods relative to traditional primary funds and lead to cash flow profiles more comparable to those available through secondary strategies. In addition, warehousing arrangements used by certain market participants allow investors to access prior vintages at cost, plus equalization interest, providing exposure to pre-identified and more seasoned portfolios rather than to blind pool commitments.

Finally, index-based approaches may offer cost advantages stemming from their systematic construction. Because portfolio assembly follows predefined rules rather than discretionary manager selection, these structures avoid the expense of large investment teams dedicated to fund selection. While this does not eliminate all costs, it can mitigate the overall management fee drag relative to strategies that rely on active selection and negotiated transactions.

The Role of Secondary Funds in Portfolio Construction

Secondary funds remain useful instruments when applied intentionally. Their strengths are most evident in targeted contexts, including:

Opportunistic deployment during periods of market dislocation
Liquidity management for portfolios with uneven cash flow profiles
Tactical adjustments to exposure levels
Situations where client-specific timing constraints are paramount

In these cases, secondaries can function as tools that complement a broader allocation. They are believed to be most effective when used alongside, rather than in place of systematic market exposure.

Conclusion

Secondary funds have played a meaningful role in expanding access to private markets, and they continue to offer value in specific contexts. However, the evolution of the secondary market has altered the nature of their diversification, performance drivers, and risk profile, while more representative measures of market exposure have developed.

As private markets have matured, index-based exposure has emerged as a potentially direct, scalable, and efficient way to access PE beta. For long-term allocators, this approach may provide a clearer foundation and a more efficient tool for exposure to PE with better risk-adjusted returns.

_{The information herein has been presented for illustrative purposes only and is based on NewVest’s subjective beliefs and, among other things, current market conditions, all of which are subject to a variety of assumptions and risks that may prove to be inaccurate and therefore should not be viewed as predictions of future outcomes. In addition, certain information has been obtained from third parties and there can be no assurance that any estimates, illustrations and/or projections provided by third parties, including with respect to investor investment allocations and other views related to the private markets, will ultimately prove to be accurate. While NewVest believes such third-party sources to be reliable, it has not undertaken any independent review of such information and, therefore, does not make any representation or warranty, express or implied, with respect to the fairness, correctness, accuracy, reasonableness or completeness of any of the information contained herein (including but not limited to economic, market or other information obtained from third parties), and it expressly disclaims any responsibility or liability therefore. This material is provided for informational purposes only, and it is not, and may not be relied on in any manner as legal, tax or investment advice.}

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_{[1] Source: Jefferies, Global Secondary Market Review, H1 2025.}