Investors seeking to diversify their portfolios and reduce dependence on traditional equity indices are increasingly turning to private markets. However, through their public holdings they already have exposure to those same markets. The additional costs associated with private funds do not structurally deliver higher returns.
That is according to Savina Rizova, co-CIO at Dimensional Fund Advisors. The Bulgarian-born investor, who experienced the transition from a communist system to capitalism, is unequivocal: “Market forces function well at their core. Consistently outperforming the benchmark through stock picking remains nearly impossible.”
Still, Rizova sees a problem—not in the market itself, but in how investors engage with it. Those seeking exposure to private markets already have it through public investments. “This occurs via direct participations, corporate venture capital, subsidiaries, and other structures. For example, large listed companies such as Amazon, Alphabet, Microsoft, and Nvidia hold minority stakes in Anthropic.”
Hidden overlap
The line between public and private is less distinct than investors generally assume. Research by Dimensional into the twenty largest US-listed companies shows that together they represent approximately 100 to 150 billion dollar in private exposure. Moreover, a second Dimensional study, covering approximately 6,000 private funds over the period 1980 to 2022, finds that returns after costs are not structurally higher than in public markets. Investors adding private funds therefore pay fees twice for the same exposure: once through the indirect private positions already embedded in their public portfolios, and again through the higher management fees of private funds that fail to deliver superior returns.
A commonly cited argument for private markets is that public markets are shrinking. Rizova rejected this. “It is true that in the United States the number of listed companies has roughly halved since the mid-1990s, from 7,000 to 3,500. But what is often overlooked is that many of these companies were acquired by others already in the public market. This is more a case of consolidation than contraction.” Globally, public markets have in fact expanded. Rizova pointed to Chinese A-shares as an example: “These shares were previously inaccessible to international investors but are now available.”
Indexation
The question then is where the real inefficiency lies. Dimensional points to the structure of public markets themselves. The increasing “indexation” of public markets, with more capital being invested passively through market-cap-weighted indices, plays a central role. The benchmarks against which investors measure their portfolios are not neutral representations of the market. “Many investors view broad indices such as the MSCI All Country World IMI Index as the market, while it contains only about 8,000 stocks. Dimensional’s global equity portfolios include approximately 14,000 securities,” said Rizova.
Indices are primarily designed for efficiency and scalability, giving large, liquid companies a dominant position while systematically underrepresenting smallcaps. Fixed rebalancing moments, standardized criteria, and rigid index rules also lead to inefficient allocation of inflows and outflows.
“That creates opportunities—not by beating the market through stock selection, but by optimizing implementation. This can be done by not automatically including IPOs, managing positions around corporate actions such as mergers and acquisitions more thoughtfully, lending securities, and handling inflows and outflows more flexibly,” Rizova explained. By deviating modestly from the benchmark through so-called enhanced indexing, investors can capture excess returns arising from these structural frictions. “The impact of each of these adjustments is small,” Rizova notes, “often just a few basis points per year.” But this is value add driven by structural features of portfolio design, not by bets on individual stocks, and the excess returns can add up over time.
Roots in academic research
This approach is rooted in the efficient market hypothesis, which holds that markets quickly incorporate information and reflect it in prices. This insight formed the foundation for the rise of index investing from the 1970s onward, but has come under pressure due to increasing concentration risks and geopolitical uncertainty. Investors have sought alternatives, including equal-weight strategies and private markets, thereby accepting more tracking error again.
Dimensional continues to adhere to the efficient market hypothesis and works closely with its architects, Nobel laureate Eugene Fama and Kenneth French. Rizova met French during her studies at Dartmouth College, where she served as his research assistant while earning her undergraduate degree. She also holds a PhD and an MBA from the University of Chicago Booth School of Business. According to her, consistently outperforming the benchmark through stock picking remains nearly impossible. “Market forces function well at their core. The problem is not the market itself, but how investors engage with it. If you choose the broad MSCI All Country World IMI Index, you still leave 6,000 stocks outside the investment universe.”