In 2022, private allocation percentages rose across institutional portfolios not because commitments increased, but because the public market against which they were measured contracted.
A perspective from Open Doors Partners.
Two portfolios can move in opposite directions without either one trading. In 2022, the S&P 500 fell by roughly eighteen per cent. Over the same period, private fund net asset values, tracked across Burgiss and Preqin data, held broadly flat. Nothing about that gap means private markets were somehow immune to the year public equities had. It means the two are marked on different clocks. Public equities reprice daily, in full view. Private valuations are appraised quarterly, and lag by construction. When the world gets worse quickly, one of those clocks notices immediately and the other one, largely, does not.
The consequence is arithmetic, not strategic. An institution running a fixed allocation target holds private exposure as a share of total portfolio value: private value over total value. When public holdings fall and private marks stay flat, the denominator shrinks while the numerator sits still. The ratio rises on its own. Nobody has to buy a single thing for the allocation percentage to move.
That’s the mechanism now called the denominator effect, and its defining feature is that it doesn’t ask anyone’s permission. An institution doesn’t choose to become over-allocated to private markets in a falling public market. It just finds out it already is. A portfolio sitting at a comfortable twenty per cent private allocation in January can be sitting above its ceiling by December, with the underlying holdings unchanged in number, size, or character. What moved was the frame around them.
This explains something that, from the outside, looked like a change of heart. US venture capital managers completed roughly 18% fewer deals in 2023 than in 2022, a decline from 17,709 to 14,491 transactions, according to data compiled by the National Venture Capital Association and PitchBook. Limited partner cash flows told the same story from a different angle: capital calls across US private equity and venture capital fell to $137 billion in 2023, on par with activity levels last seen in 2020, per Cambridge Associates benchmark data.
The reading offered at the time, mostly by commentary paying attention to headline numbers, was that appetite for private markets had cooled. That reading was largely wrong. Cambridge Associates noted directly that public equities reflected 2022’s concerns quickly, while private markets reacted more slowly, a lag that left institutions constrained by target bands rebalancing around a ceiling that had moved beneath them, not stepping back from conviction. The State of Wisconsin Investment Board offers a documented instance of the mechanism at work: having set a private equity and debt target of 12%, with an acceptable range of 9 to 15%, in December 2021, the board found its allocation within one percentage point of that upper limit just one month later, in January 2022, without a single new commitment behind the move. Its consultant, NEPC, recommended widening the range to 17% rather than reading the shift as a change in strategy. A firm already at its private allocation limit can’t make a new commitment, no matter how good the opportunity in front of it looks. The slowdown was structural. It wasn’t sentiment.
This is also why allocation percentage gets misread so often. It’s treated as a proxy for conviction when it’s really the output of two variables that don’t always move together. A rising private allocation can mean growing enthusiasm for the asset class. It can also mean nothing more than a public market that fell. From the ratio alone, the two look identical. They’re only distinguishable once you decompose what actually moved — the numerator, the denominator, or both.
The part most retrospective accounts miss is that it runs in reverse, too. As public markets recovered through 2023 and into 2024, the same denominator that had shrunk began expanding again. Rising public valuations pulled private allocation percentages back toward target, mechanically, without any institution reducing its private holdings or its appetite for them. A portfolio that looked over-allocated in December 2022 could look correctly allocated eighteen months later, having done nothing in between except hold what it already held while the market around it recovered.
The ratio was never measuring conviction changing. It was measuring two clocks running at different speeds, occasionally converging, occasionally diverging, in ways that have very little to do with what any allocator actually believes about the asset class.
Serious capital reads allocation numbers with that decomposition already built in, and treats a rebalancing mechanism and an investment decision as two different things even when they produce identical-looking numbers on a summary page. That distinction isn’t visible in the headline allocation figure. It shows up in how a firm’s structure and governance are actually built, which is closer to a question of process than of appetite.
A ratio moved in 2022. Very little else did.
This article is published for informational purposes only and does not constitute an offer or solicitation to buy or sell any security. Nothing herein should be construed as investment advice.
What is the denominator effect in private markets?
The denominator effect describes how an institution’s private-market allocation percentage can rise even without new capital commitments, simply because the public-market portion of the portfolio (the denominator in the allocation ratio) falls faster than private valuations adjust.
Why didn’t private fund valuations fall along with public markets in 2022?
Private funds are typically marked quarterly rather than continuously, and those marks are based on appraisal rather than a live trading price. That lag means private NAVs respond to a market downturn more slowly, and often less sharply, than publicly traded equities do.
Does a rising private allocation percentage always mean an institution is investing more in private markets?
No. A rising allocation percentage can reflect either increased commitments or a shrinking public-market denominator. The two produce the same ratio but mean very different things, and reading the number without separating them risks mistaking a mechanical shift for a change in conviction.
Does the denominator effect reverse?
Yes. As public markets recover and the denominator expands again, private allocation percentages tend to fall back toward target without any reduction in private holdings, which is why the effect is best understood as a temporary distortion in measurement rather than a lasting shift in institutional appetite.
This article is published for informational purposes only and does not constitute an offer or solicitation to buy or sell any security. Nothing herein should be construed as investment advice.
Open Doors Partners LLC does not publicly offer or solicit investment opportunities. All investments are made through private placements under Rule 506(b) of Regulation D. Accredited investors only. Past performance is not indicative of future results.