Feb. 10, 2022
Private Equity has cost taxpayers and investors $billions in secret no-bid contracts in State and Local pensions especially since Citizens United facilitated legal undisclosed pay for play. Now the Private Equity industry is set to infiltrate the 401(k) industry. It is important that the SEC provide the level of disclosure that will allow ERISA fiduciaries to evaluate and monitor them before they are put in millions of retirement plans. I have been a critic of excessive hidden fees in Private Equity and Hedge funds outlined in my book Kentucky Fried Pensions.[i] I have also done investigations in Utah[ii] and for the Chicago Police pension.[iii] I have written dozens of articles on the subject. [iv] However, I think it can be done right and I am currently helping to promote an ESG Racial Justice Private Equity fund. Public pension scandals are erupting in Pennsylvania and Ohio where staff serving on “advisory committees” get fed lavish meals and get entertained by the likes of Elton John. [v] Center for Economic and Policy Research’s Eileen Appelbaum “Much as private equity firms may wish it were different, they have been mostly unable to worm their way into workers' 401(k)s and abscond with their retirement savings,”[vi] from a series of articles on how the new Trump DOL rules were connected to massive political donations by the Private Equity industry.[vii] However they claim to be making ground and SEC rules are desperately needed. A report by University of Oxford professor Ludovic Phalippou shows that in the last 15 years, private equity firms generally have not provided better returns to investors than low-fee stock index funds. Prof. Phalippou has shown excess mostly hidden fees and expenses to exceed 6%. [viii] Former SEC Attorney Ted Siedle goes over the Fiduciary Breaches common in most Private Equity funds in his Forbes Column. [ix] 1. Private equity offering documents generally prominently state (in capital, bold letters) that an investment in a private equity fund is speculative, involves a high degree of risk, and is suitable only for persons who are willing and able to assume the risk of losing their entire investment. The plan is for to introduce Private Equity into Target Date Funds where they can use the current weak SEC disclosures to hide the actual contracts and terms from plans and participants. 2. Largely “unconstrained” and may change investment strategies at any time. Can engage in borrowing, or leverage, on a moderate or unlimited basis. No assurance of diversification since funds generally reserve the right to invest 100 percent of their assets in one investment. Heightened offshore legal, regulatory, operational and custody risk. 3. Myriad conflicts of interest, self-dealing practices. The investment manager determines the value of the securities held by the fund. Such valuation affects both reported fund performance as well as the calculation of the management fee and any performance fee payable to the manager. [x] Naked Capitalism writes “The toothless and captured Institutional Limited Partners Association has proposed a fee disclosure template which has gone nowhere.”[xi] It is widely known there is a massive underreporting of fees. 4. Business practices that may violate ERISA. Private equity fund offering documents often disclose that investors agree to permit managers to withhold complete and timely disclosure of material information regarding assets in their funds. Further, the fund may have agreed to permit the investment manager to retain absolute discretion to provide certain mystery investors with greater information and the managers are not required to disclose such arrangements. As a result, the fund you invest in is at risk that other unknown investors are profiting at its expense—stealing from you. Finally, the offering documents often warn that the nondisclosure policies may violate applicable laws. That is, certain practices in which the fund’s managers engage may be acceptable to high-net-worth individuals (or unknown to them) but violate laws applicable to ERISA plans. [xii] 5. Lack of disclosure has led to numerous violations some pointed out by the SEC, others pertaining to IRS like monitoring fees tax law violations and management fee waivers tax law violations. These 5 points are a very abbreviated list of Former SEC Attorney Ted Siedle’s column on the Fiduciary Breaches in Private Equity funds in his 8/23/20 Forbes Column. [xiii] Given the current and past scandals with Private Equity and Hedge Funds in public pensions, and their planned invasion of the 401(k) world it is time for the SEC to act with disclosures that force real transparency in performance and fees. [i] https://www.amazon.com/Kentucky-Fried-Pensions-2018-Chris/dp/1981779027 [ii] https://le.utah.gov/audit/15_03rpt.pdf [iii] http://www.christobe.com/reports/twisted-priorities/ [iv] http://www.christobe.com/alternatives/ [v] https://www.nakedcapitalism.com/2022/02/sec-set-to-lower-massive-boom-on-private-equity-industry.html? [vi] https://www.dailyposter.com/biden-reversal-gives-wall-street-a-big-win/ [vii] https://www.dailyposter.com/news-trump-just-fulfilled-his-billionaire/ [viii] https://www.dailyposter.com/news-trump-just-fulfilled-his-billionaire/ [ix] https://www.forbes.com/sites/edwardsiedle/2020/08/23/trump-dolsec-fail-to-warn-401ks-about-massive-private-equity-dangers/?sh=62e7fb7eb808 [x] https://www.forbes.com/sites/edwardsiedle/2020/08/23/trump-dolsec-fail-to-warn-401ks-about-massive-private-equity-dangers/?sh=62e7fb7eb808 [xi] https://www.nakedcapitalism.com/2022/02/sec-set-to-lower-massive-boom-on-private-equity-industry.html? [xii] https://www.forbes.com/sites/edwardsiedle/2020/08/23/trump-dolsec-fail-to-warn-401ks-about-massive-private-equity-dangers/?sh=62e7fb7eb808 [xiii] https://www.forbes.com/sites/edwardsiedle/2020/08/23/trump-dolsec-fail-to-warn-401ks-about-massive-private-equity-dangers/?sh=62e7fb7eb808 -- Chris Tobe, CFA, CAIA