The chief executive of

US financial institution Wells Fargo, John Sumpf, crystallised this view when he told the US House Financial Services Committee in February that a mechanistic mark-to-market approach was “markto- craziness”. Barwon argued that an immediate fair value assessment of a private equity portfolio provided a narrow indication of its worth because it neglected the possibility that valuation multiples can improve in the future. “If a company is still servicing its debt, not breaching loan covenants and has no requirement to refinance, then private equity managers can continue to hold the investment with a view to realising it at a later date when the EBITDA or valuation multiples have improved,” Barwon wrote.

“In simple terms, the equity can be considered to have the value of a call option with the strike price being the face value of a company’s net debt.” The paper argued that the current trading prices of listed private equity funds on global markets, which in January hit at an average discount to NAV of 75 per cent, reflected “disorderly or distressed markets more than they do underlying private equity portfolio fundamentals”. There are more than 300 listed private equity securities worldwide. These “unprecedented” discounts to NAV implied that future valuations could fall well below Barwon’s expectations for the first half of 2009. The manager, however, thought these securities were being oversold.