Beyond the discount: what really drives secondaries returns

“Discounts are part of the story. They’re not the whole story.”

Private market secondaries have moved firmly into the spotlight. As private markets open up to individual investors, the strategy that buys existing assets, often below their most recent net asset value, has moved from a niche corner of institutional portfolios to a central pillar of the wealth channel.

With that attention comes scrutiny. And much of it has focused on one feature in particular: the discount. The common question of investors looking to determine the quality of a secondaries strategy is ‘what’s the discount?‘.

It is an understandable focus. The idea that a buyer can step into a private market interest below its reported value is intuitive and easy to model. But it is only one piece of how secondaries actually generate returns and on its own, it can paint a misleading picture of what a high quality secondaries portfolio looks like.

A discount is the gap between what the buyer pays (‘purchase price‘), and the most recent Net Asset Value (‘NAV‘) reported by the GP managing the underlying fund. That gap exists primarily for two very different reasons, namely asset quality and transaction dynamics.

Asset quality related discounts refer to the value and features of the asset itself. Attributes such as performance, certainty of exit and future growth potential all affect the purchase price. The more predictable an asset’s growth potential and the more value can be derived from its appreciation post purchase, the less the strategy needs to rely on a discounted entry price to achieve a required rate of return.

The opposite is also true. Discounts can be a means to compensation for risk, such as underperforming assets, domiciled in higher risk regions, earlier stage venture exposure, or tail-end portfolios with little runway and growth potential left. In those cases, the strategy relies on a deep discount, because the buyer is taking on real downside or accepting limited upside.

Discounts related to transaction dynamics are independent of the asset quality and result from transactional drivers. Secondaries opportunities are typically brought to market by sellers with specific timing needs, i.e. a certain deadline by when the transaction needs to be completed. Those timing constraints, often paired with finite demand for the specific asset at any given moment, may force sellers to transact below NAV even when the asset quality is high. For buyers focused on portfolio quality, this is where the more durable opportunity often sits.

The next question is how discounts actually translate into returns. And here the math is more interesting than it first appears. Value creation in secondaries is a combination of the discount pickup at closing and the appreciation in value post closing.

A simple example: if a buyer pays $90 for assets valued at $100, the $10 discount is the headline number. If that were the entire return story, secondaries would essentially be an arbitrage trade: buy below NAV, profit from the delta.

But that framing treats the underlying asset as static – it is not. If the underlying portfolio grows from $100 to $150 over the holding period, the total gain is $60. The discount capture is $10 of that, roughly 17%. The other $50, or 83%, comes from the appreciation of the assets themselves.

This example shows discounts are genuine and can contribute meaningfully to returns. But for managers focused on high quality assets with future growth potential, a large share of value creation typically comes from how those assets perform after the transaction closes.

Different managers position themselves at different points along this spectrum. Some lean heavily on discount capture, often on assets with limited remaining growth. Others build portfolios where the entry price is favourable, but the thesis is fundamentally about the underlying companies continuing to compound. Therefore, understanding how secondary managers create value in their investments is key to assessing their quality and risk/return profile.

A related point, and one that has been the subject of some recent debate, concerns how NAVs are determined in the first place.

A common misconception is that secondary buyers somehow “mark-up” the investments they acquire. But this is not what actually happens. NAVs are determined by the GPs managing the underlying assets, not by secondary buyers stepping in to acquire them. Those GPs apply recognised valuation standards under the relevant accounting frameworks, with independent audits, accounting oversight and investor advisory committee scrutiny built in.

When a secondary buyer transacts below NAV, they are acquiring an asset at a price the seller has accepted. They are not revaluing the underlying asset. The transaction price and the GP-reported fair value are two different things, governed by different processes.

That distinction has always existed in private markets. What has changed is that evergreen structures which report performance more frequently than traditional drawdown funds have made these mechanics more visible.

The growth of evergreen secondaries vehicles has brought a separate question into focus: how do investors entering at different times experience the same portfolio?

In a traditional closed-ended secondaries fund, every investor commits at the start of the fund’s life and each shares the same exposure from inception. In an evergreen vehicle, investors subscribe over time, at the prevailing NAV. That means investors entering at different points will have slightly different exposures and return paths.

This is not unique to secondaries. It is a feature of open-ended vehicles across asset classes.

What is specific to secondaries, though, is what this implies about strategy. A vehicle that depends primarily on discount capture is poorly suited to an evergreen structure. As assets scale, each new transaction represents a smaller share of total NAV and the marginal contribution of any single discount shrinks accordingly. A pure discount arbitrage strategy in an evergreen wrapper is, in effect, racing against its own growth.

For evergreen vehicles to sustain themselves, the underlying portfolio has to keep growing. That is the test that matters — not the size of the discount on day one, but whether the assets behind it have a runway to grow and constitute the majority of value creation.

Discounts are a genuine feature of secondaries returns, but they are not the whole story. Treating them as such misses what high quality secondaries portfolios are really built on: well composed exposures and continued growth in the underlying assets vetted through a disciplined due diligence approach.

Therefore, for investors evaluating the space, the question should not be “what’s the discount?” But rather “what is the quality of the underlying assets, and how much value is driven from future NAV growth versus discount?”

That is where the real differentiation in this market lives.