This question has gained urgency as private markets face mounting challenges. High borrowing costs, dwindling exit opportunities, and increased regulatory scrutiny are tightening the noose around an industry long insulated from public accountability. Barry Griffiths, a quant trailblazer, and his innovative metric, direct alpha, are at the heart of this reckoning. His work threatens to upend private markets by exposing their value—or lack thereof—with cold, statistical rigour.

The Complexity of Private Markets

Private markets are unlike their public counterparts in more than just access. Public market performance is easy to gauge: Stock prices are updated in real-time, and returns can be measured against standardised benchmarks like the S&P 500. Private markets, however, operate in a black box. Fund valuations are often based on infrequent appraisals, subject to the discretion of fund managers. The cash flows investors put into and receive from these funds vary in timing and magnitude, making performance comparisons inherently complex.

This opacity has served private markets well. For example, during the volatile downturn of 2022, the MSCI World Index of public equities fell 19%, while private equity funds dropped only about half as much. These seemingly stable returns provided a reassuring narrative for investors eager to reduce portfolio volatility. But was this steadiness absolute, or merely a reflection of less frequent pricing? Sceptics like Cliff Asness, co-founder of AQR Capital Management, call it "volatility laundering"—a way of masking the true economic story behind smoothed-out valuations.

The Emergence of Direct Alpha

Griffiths is attempting to bring clarity to this murky world. Formerly head quant at Ares Management and a pioneer in private asset analytics, he devised direct alpha to assess the performance of private investments with a rigour akin to public markets. The method compares the cash flows from a private market fund—its contributions and distributions—to what those same dollars would have earned if invested in a public market index during the same period. This approach provides a standardised, annualised metric that aligns with how most investors think about performance.

The results have been eye-opening. A 2023 study by Griffiths and his co-authors, Oleg Gredil of Tulane University and Ruediger Stucke of Warburg Pincus, analysed over 2,400 buyout funds. While these funds reported an average internal rate of return (IRR) of 12.3%, their direct alpha revealed a more modest picture: a 3.1% excess return over broad market benchmarks and just 1.7% over industry-specific indexes. Venture capital funds, long celebrated for their high-risk, high-reward potential, fared even worse, with average alpha hovering near zero.

A Double-Edged Sword

The implications of these findings are profound. For institutional investors allocating ever-growing sums to private markets, direct alpha quantifies whether they're genuinely getting what they pay for. However, for private market managers, this level of scrutiny poses an existential threat. The industry thrives on absolute returns—headline figures that look impressive but often mask the underlying realities of risk and market conditions. Direct alpha forces managers to justify their fees and demonstrate genuine value creation by stripping away this veneer.

It's more than just the numbers that make this transition challenging. Private markets have long been a clubby ecosystem where relationships and reputation carry as much weight as performance. Griffiths' approach introduces a level of objectivity that could disrupt these dynamics. For instance, Ian Charles of Arctos Partners recounts a case where a manager sought to launch a fund based on stellar historical returns in a specific industry. A direct alpha analysis revealed that the manager's results were indistinguishable from zero once fees and broader market performance were accounted for. The fund's perceived strength was, in reality, a product of being in the right place at the right time.

The Broader Implications

The rise of direct alpha is not occurring in a vacuum. As private markets grow, they increasingly intersect with public markets, institutional mandates, and regulatory oversight. This convergence is accelerating the demand for transparency and comparability. Japan's $1.6 trillion Government Pension Investment Fund has already adopted direct alpha as part of its private market assessment toolkit, as has Norway's $1.8 trillion sovereign wealth fund. Even the $43.4 billion UPS Pension Plan has used the method to shift its strategy toward smaller, specialised managers, yielding improved outcomes.

At the same time, major players like BlackRock are investing heavily in tools to improve private market transparency. The firm's $3.2 billion acquisition of Preqin, a leading alternative assets data provider, underscores a growing belief that private markets must adopt some of the rigour of public markets to sustain investor confidence.

However, only some are eager to embrace this shift. Critics argue that direct alpha and similar metrics oversimplify a complex reality. The choice of benchmark, for example, can significantly alter results. Should private equity be measured against the S&P 500, small-cap value stocks, or anything else? Each choice reflects a set of assumptions, and these assumptions can be as contentious as the outcomes they produce.

A Slow but Inevitable Transformation

The path to full transparency in private markets will be long and fraught with resistance. After all, the earliest academic work on public market alpha emerged in the 1960s, but these ideas gained widespread acceptance during the 2008 financial crisis. For private markets, where inertia is even more robust, the timeline may be longer still.

Yet the momentum is undeniable. Griffiths, though retired, continues to influence the field through his protégés and collaborators. His successor at Ares, Avi Turetsky, calls him "the godfather" of private-market quants, a testament to his enduring impact. Meanwhile, institutions like Commonfund are using direct alpha to justify higher allocations to private markets, confident that they now better understand the risks they are taking.

Ultimately, Griffiths' work challenges an industry built on secrecy to embrace transparency. This information forces investors and managers to confront uncomfortable truths about performance, risk, and value. For private markets, the age of self-regulation may be coming to an end. And for those willing to adapt, the financial and reputational rewards could be immense.