Private Equity: Past & Present, Charters & Code
Director, Division of Investment Management
New York, NY
Nov. 16, 2023
Thank you for that kind introduction, [Professor de Fontenay]; and thank you for your gracious invitation, Professors de Fontenay, Morley, and Clayton. I’m honored to be with you at this inaugural roundtable, the first of many I sincerely hope.
Please allow me to begin by noting that I’m appearing here today in my official capacity as the Director of the Division of Investment Management, and that my comments do not necessarily reflect those of the Commission, the Commissioners, or my fellow members of the staff.
Today’s program tells me that you have already discussed the past of private equity regulation, so I hope I’m not treading over well-worn ground if I begin in 1198. To honor Professor de Fontenay, I’d like to take us to France and back to the Battle of Gisors, where Richard I invoked his divine right to rule with the cry of “Dieu et mon droit.” The professors in the room know that any discussion of law and the late twelfth century is hurtling inevitably towards an invocation of Magna Carta.
Sure enough, less than twenty years after the Lionheart’s bold claim, the succeeding monarch of England, John the first (and last), forfeited much of that God-given majesty, along with his hold on London and kingly reputation, when confronted by Robert fitz Walter and a rebellious syndicate of wealthy lords. John bartered away privileges of his royal authority on the plains on Runnymede in 1215 when he granted to those barons a charter of rights in exchange for the Crown’s ability to augment its treasury by levying taxes. To memorialize the pact, the parties executed Magna Carta in thirteen exemplifications, each affixed with the royal great seal and installed in cathedrals throughout the realm to be read twice annually to the subjects of England.
The ability to cite Magna Carta is one of the standard baubles that comes with a legal education in this country. Typically, this shibboleth is reserved for discussions of the origins of due process and habeas corpus in courses on legal history and constitutional law, but the bargain between King John and his peers presaged a high-stakes private equity transaction: in exchange for their infusion of capital, the barons exacted material rights of control.
Though that particular deal closed more than 800 years ago, one of the more compelling questions of economic legal history remains how today’s lords of finance developed into central players in our global economy.
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Our hosts have focused our attention on a slightly more contemporary inquiry about theories of private equity regulation.
At a high level, the question of optimal financial regulation is simple but not easy. Simple because two well-established extremities define the universe within which we operate: command-and-control fiat versus unfettered laissez-faire. Difficult because neither is truly on offer, so we must explore the arduous choices in between. The real question then is precisely where upon the spectrum ought one’s theory of optimal regulation lie?
Fortunately for those of us considering this question at the Securities and Exchange Commission, we serve a tripartite mission to balance what one could characterize as competing imperatives along this continuum: the protection of investors; the maintenance of fair, orderly, and efficient markets; and – with that pull of laissez-faire – the facilitation of capital formation. Though this trinity operates at a level below high theory, it does provide a practical focus for our regulatory endeavors. Certain of our projects may lie closer to one of these three important waypoints than the others, but rarely at either extremity of the spectrum: nothing we do is by monarchical decree, and I defer to the intellectual patriarch of Chicago economics, Frank Knight, on his profession that “We cannot go back to laissez faire in economics even in this country.”
So perhaps it’s best for me to address this question by demurring: regulatory theories belong best to those in whom our Constitutional system reposes due authority, starting with Congress. Congress can, of course, grant to the SEC and similar agencies specific authority and defer to our expertise in the regulatory areas where we are most expert. Members of the staff of the SEC possess important lessons and experience that inform and deeply benefit the regulatory process.
As a relative neophyte in the regulator community, I will submit two such guiding principles of securities regulation: ability and integrity. The first primarily for our academic audience, the second for members from industry. Though the agency’s mission statement receives far greater attention, these two attributes are memorialized on the large parchment commissions that Presidents sign to authorize and empower Commissioners – including the members of our Commission – to serve their country. “Know ye,” recites each commission, the President "repos[es] special trust and confidence in the integrity and ability” of each Commissioner.
If talk of presidential commissions is resurrecting cobwebbed memories of Marbury versus Madison, I’ll assure you that here endeth our tourism in the land of constitutional legal history.
But let us talk of ability. Law professors are a deeply impressive community of brilliant thinkers. And their pursuit of theory with rigor orients us all to highest aims of society. But – and speaking only for myself here – the volume of what we don’t know is equally impressive. In the first few weeks of this job, I mentally revised my SecReg syllabus and lecture notes several times over. Much of the milieu in which a regulator works is confined by at least two critical constraints of expertise: the plumbing of our financial system and the legal authorities granted by Congress. On the former, few academic papers attempt to disentangle the gordian jumble of back-office systems that define the functional anatomy of American finance. On the latter, no one, and certainly no professor I’ve encountered, takes more seriously their analysis of legal authority when considering complex and important policy questions than the dedicated lawyers and public servants I am proud to call colleagues.
In the Division of Investment Management, we enjoy remarkable contributions by our subject matter experts – some with four decades of experience at the largest firms in this industry – to help us understand what is practically possible within the bounds of our legal authority. Drafting efficacious regulation requires a rich comprehension of not just the problem that empirics identifies and the goal that theory suggests, but the maze of pathways lying between the two. In a program so good that it defies pernicious stereotypes of bureaucracy, our Division hosts a rotating cohort of expert fellows who join us from two to four years, some as a capstone to long careers at the world’s most prominent asset managers and private funds. Competence is critical to financial regulation. And the Division boasts some of the best lawyers, accountants, and industry experts in our field, including seasoned operations professionals, former partners at prominent law firms with clients at the pinnacle of industry, experts with years of experience in the private funds space, former chief compliance officers and general counsels, auditors, and quantitative financial analysts.
The Division is extremely fortunate to possess such a deep and impressive bench of expertise, and I am personally in awe that so many accomplished professionals seek out opportunities in public service for the benefit of others. Their professional pedigrees and work product speak for themselves; still, I can’t help but tout on their behalf that the most recent results of the Partnership for Public Service’s survey of Best Places to Work in Federal Government ranked our Division third out of 422 agency subcomponents – that is, above the 99th percentile – in the category of Performance.
Academics – or, indeed, any stakeholders – who wish to influence regulation can magnify their contributions by doing what our most useful collaborators do with their extraordinary ability: acknowledging a regulation’s goal; identifying technical and pragmatic impediments; and suggesting alternative paths to reaching the goal.
Engagement with stakeholders brings me to the commissions’ second point: integrity.
Perhaps by integrity, one might assume I allude to ethical probity, moral rectitude, a shunning of defalcation. I do not. Those principles I take as a given in the members of our Division, both from personal experience with the staff and from what might be the most rigorous code of ethics amongst our nation’s financial regulators. I mean something more: intellectual integrity. A willingness to admit what a regulator doesn’t know, to pursue that absent knowledge, and thereby to render the most principled service possible to the American public.
Before I took this position, I sought advice from other academics who had served in government. The most memorable suggestion I heard was “listen to everybody.” Ambitious, I thought. But already done, I soon learned. In my time and I suspect long before, the Division has taken hundreds of meetings asked of it by outside stakeholders; and many more meetings that we have requested, with industry, with academics, with technical experts. My only surprise is that more people don’t ask to meet with the Division’s staff.
What I think might surprise industry is the degree to which staff earnestly grapples with challenges and solutions submitted through the notice-and-comment policymaking process.
So, to what theory of financial regulation do these lessons lead? Perhaps to the modest suggestion that theory may not be essential for the preponderance of effective regulation. Ability and integrity might successfully accomplish the majority of good governance. With greater confidence, I can assure you that members of the Division’s staff work indefatigably each day in search of the most harmonious balance to which the agency’s mission aspires. If you – in academia, industry, or elsewhere – wish to join us on that quest, we welcome you.
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With that balance in mind, I will turn back to the dealmaking of Magna Carta and, more specifically, to its present-day analogue: private equity and private funds more generally. The population of private funds in this country stands currently at almost 100,000, approximately 54,000 of which are advised by SEC-registered investment advisers and 40,000 by SEC-exempt reporting advisers. The former comprise more than $21 trillion in gross assets under management; the latter, $6 trillion. Thus, the total universe is approaching par with the $30 trillion of assets in America’s registered investment companies: mutual funds, closed-end funds, money market funds, and exchange-traded funds.
Though this developing field is worthy of all our attention, it’s important to calibrate these figures by noting that private fund assets still represent only about a quarter of the asset management industry’s total regulatory assets under management, which currently stand at $114 trillion – a truly major figure for the entire industry and a sign of sustained growth. Within the quadrant of private fund assets, the comparable figures for private equity, specifically, are more than 30,000 total funds and almost $10 trillion in gross assets. How do we know these numbers despite the fact such funds are private in nature? Because the SEC requires that information through Form ADV and because Congress specifically recognized the need for more regulatory oversight in this arena to monitor for systemic risk.
With these gestures to systemic risk and Dodd-Frank I am, of course, referring to another powerful tool for gathering information: Form PF. Originally adopted twelve years ago, Form PF was part of a response to the involvement of private funds in the financial events of 2008, which is also when Congress specifically narrowed the existing “private adviser” exemption to advisers solely to private funds with less than $150 million in assets under management. Dodd-Frank thus required many previously unregistered advisers to private funds to register with the SEC or the states.
In May of this year, the Commission finalized certain changes to Form PF, and we look forward to bearing all of the fruits of that rulemaking in the near future following its compliance date. It’s difficult to overstate the impact of this form upon the agency’s ability to understand and to monitor the private fund space. To celebrate its recent enhancements, I would like to proselytize how invaluable Form PF data has been in the hands of regulators seeking to stay abreast of an increasingly complex and interconnected industry and to highlight how the new amendments will improve our existing capabilities.
Most obviously, Form PF provides a comprehensive and standardized regulatory dataset on the notoriously opaque private fund sector. Before this supply of information, regulators were forced to rely on vulnerable information – gleaned from the financial press and trade and lobbying groups without the ability to independently verify or dispute their validity. Now, we have over a decade’s worth of information to give us a window into asset class information, leverage, and counterparty exposures with entity-level specificity. For a regulator, this visibility is more important than ever given the size and interconnectedness of private funds with our broader capital markets.
As the industry continues to develop, Form PF is crucial for regulators to understand the dynamics and trends of the private fund market, and how these phenomena are evolving over time. For example, with Form PF data, we and our colleagues in the Office of Financial Research and the Financial Stability Oversight Council can see changes in private equity allocations, shifts in hedge fund leverage, geographic concentrations, and the popularity of particular strategies. Summaries of this data are also made available to the public in our quarterly reports on Private Fund Statistics, which aggregate, round, and mask data to avoid potential disclosure of proprietary information of individual Form PF filers. These trends are all important for us to observe, understand, and monitor in a systematic manner, particularly with respect to an important externality like systemic risk.
On that point, it may be worth a brief reminder that the Advisers Act is no stranger to the concept of systemic risk. Just as history has been something of a theme in these remarks, I’ll take a moment to note something ahistorical: stale analyses of the Advisers Act that ignore specific grants of authority to assess systemic risk and to regulate larger private fund advisers. With Dodd-Frank, Congress worked a sea change upon the Advisers Act.
Look no further for this evidence than the Act itself, which now references systemic risk nine times in its short thirty-eight pages – three times more than any other securities law. Information from Form PF enables the Division to use its limited resources more effectively, both for ongoing monitoring and preparedness, and in more exigent circumstances when outreach or other efforts may be vital to foresee broader contagion.
When we observe stress in the private funds market, this data also allows the Division to quickly identify private funds with specific exposures and particular strategies and allows us to be more responsive to systemic risks. The recent amendments further improve our ability to respond during such times of stress since they address previous information gaps and reporting time lags that created significant data blind spots. Now, the Commission will benefit from current reporting from hedge funds in certain situations in near real time as impactful market dynamics unfold. This information will enable the Division, the Commission, and our FSOC colleagues to deploy resources in the most advantageous ways in times of market instability and distress.  We also look forward to completing recommendations that the Commission adopt further amendments to Form PF jointly with the Commodity Futures Trading Commission to greatly enhance the view of private funds’ leverage and counterparties.
Our improved visibility via Form PF will also be highly valuable with respect to private equity specifically. The recent amendments include reporting events for private equity fund advisers to complement existing data including, for example, investor election to remove a fund’s general partner. Visibility into these events enables us to better evaluate material changes in market trends, as well as to identify possible stress at specific private equity funds. This new reporting also gives us an improved capability for systemic risk assessment in the private equity industry.
Overall, the amendments will strengthen the effectiveness of the Division’s regulatory programs as well as with respect to examinations, investigations, and all other investor protection efforts relating to private fund advisers.
And, on the topic of private fund advisers, of course, the Commission recently adopted new rules and amendments that are designed to protect private fund investors by increasing transparency, competition, and efficiency in the private funds market. Today, I’ve spent a lot of time speaking about Form PF, which provides the Commission with a better view of the private fund industry. By comparison, the new private fund adviser rules will provide important transparency and visibility to investors themselves in several ways, including via quarterly statements detailing certain information regarding fund fees, expenses, and performance. This increased visibility, among other important requirements under the new rules, is an important step by the Commission to enhance transparency in a far-reaching and burgeoning industry that touches many different strata of Americans’ wealth from public and private pension plans to university endowments and, of course, the ordinary American citizens whose interests are represented by those limited partners.
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For the teachers gathered here today, let me close with a brief reflection on a topic more obviously related to the future of regulation for private equity – and perhaps all finance: the rise of artificial intelligence, machine learning, and other powerful computer algorithms. You might suspect that I’m going to address the Commission’s recent proposal on conflicts of interest associated with the use of predictive data analytics by investment advisers. I’m not.
Instead, I’m going to reflect on a dynamic involving a pedagogical cycle I’ve seen repeated many times.
In high school, several decades ago, I saw many students take classes in computer languages like Basic and Pascal. Many quickly concluded that coding was hard and too difficult to learn.
In college, a couple of decades ago, crude versions of HTML began to flourish. Many students I knew decided that it was too late to do anything with that skill, since so many other people already knew it.
Then in law school, at the turn of the millennium, lots of students joined technology-based start-up firms. And after the bursting of the dot-com bubble, they determined that those ideas simply wouldn’t be terribly relevant anymore.
Time has taught a few lessons to refute those inopportune conclusions. The code wasn’t that hard to learn, and lots of people who tried did master it. The opportunities didn’t come too late – they were right on time. Or, if anything, they were early. And with the passage of time, a fluency with programming languages has grown only more relevant.
So, are those of us without a mastery of all that code impoverished citizens? No, certainly not. But we do find ourselves operating within a system subject to the decisions of algorithms that dominate our twenty-first century lives. And I agree with our Chair that artificial intelligence will likely find itself at the center of a future financial crisis with which we will all have to grapple.
But I have a different code in mind. When we care deeply about instructions to guide our society, we commit them to text. Magna Carta comprised a few lines of particularly important twelfth-century code. Indeed, in 1297, when John’s grandson Edward I suffered his own embarrassment of funds, he issued a new set of confirmatory charters. The importance of these documents – regarded today as a foundation of the Anglo-American system of laws and liberties – warranted the use of particularly fine materials: vellum prepared from the scraped and stretched hides of young calves and iron gall ink made with gum Arabic, the crude ferrous sulfate copperas, and tannic acid from woody tumors formed when gall wasps lay their eggs upon English oak trees. Over time, the iron in this ink rusts, etching text deep into the flesh of the vellum, so that words can be read clearly more than seven hundred years later.
Such is the condition today of one of only two exemplifications of the 1297 Magna Carta to be found outside England. Suffice it to say, it’s something more than a lucite deal toy. When it sold at auction in 2007, Sotheby’s called it “the most important document in the world.” For this “birth certificate of freedom,” the auctioneer’s hammer fell on a winning bid of $19 million. And who bought this treasure? I’ll let you do your own research, but I doubt anyone would be surprised to learn that it was a captain of private equity.
What we in the Division of Investment Management dedicate ourselves to is the code that regulates investment companies and investment advisers, including on occasion the advisers to private equity funds.
Is securities regulation hard to learn? Yes, certainly, it’s a complicated web of statutes and rules.
Is it too late for students and citizens to learn? No, by no means, I’m aware of many who have taken it up late in life and come to master it. And with every major change, the field levels a little for newcomers.
Is it relevant to their lives? Most definitely. Indeed, our nation’s securities regulation may be the closest thing we have to an operating system for America’s financial structure.
Thank you all for learning it, for helping to enrich it with your participation in our policymaking process, and – perhaps most of all – for teaching it to a new generation of citizens.
 J. Birkbeck Nevins, Explanation of the Origin and Date of the Heraldic Coat of Ars, in Proceedings of the Liverpool Literary & Philosophical Society (London: Longmans, Green & Co., 1901), 67.
 J.C. Holt, Magna Carta (Cambridge: Cambridge University Press, 1992), 30-35.
 Angus Burgin, The Great Persuasion: Reinventing Free Markets since the Depression, p. 4.
 “The Work Unit subcategory under Performance measures the extent to which employees believe their work unit produces high-quality work and contributes to the agency’s overall performance.” Partnership for Public Service 2022 Federal Employee Viewpoint Survey. 2022 Best Places to Work in the Federal Government Rankings, available at https://bestplacestowork.org/rankings/?view=category&category=performance_workunit&size=sub&.
 Division of Investment Management staff analysis of Form ADV data as of September 30, 2023.
 Accord Commissioner Caroline A. Crenshaw, In-securities: What Happens When Investors in an Important Market are not Protected? Remarks to the Center for American Progress (Oct. 11, 2023), available at https://www.sec.gov/news/speech/crenshaw-remarks-center-american-progress-101123 (“Private markets are an increasingly large portion of the overall markets. That means solutions to any of the most important issues in the markets today will naturally require consideration of the private markets and the assets that trade in them.”).
 Based on staff analysis of data filed on Form ADV as of October 2023. This total represents the sum of regulatory assets under management reported by Form ADV filers and is not adjusted to account for subadvisory arrangements or other factors.
 Form PF was adopted in 2011 as required by the Dodd-Frank Wall Street Reform and Consumer Protection
Act of 2010. Pub. L. 111-203, 124 Stat. 1376 (2010) (“Dodd-Frank Act”). See Form PF; Event Reporting for Large Hedge Fund Advisers and Private Equity Fund Advisers; Requirements for Large Private Equity Fund Adviser Reporting, Rel. No. IA-6297 (May 3, 2023) [88 FR 38146 (Jun 12, 2023)] (“Form PF 2023 Adopting Release”) at 156 (“The rules implement provisions of Title IV of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”), which amended the Advisers Act to require the SEC to, among other things, establish reporting requirements for advisers to private funds. The rules are intended to assist FSOC in its monitoring obligations under the Dodd-Frank Act, but the SEC also may use information collected on Form PF in its regulatory programs, including examinations, investigations, and investor protection efforts relating to private fund advisers.”).
 See Dodd-Frank Act § 403 (eliminating the general private adviser exemption); Dodd-Frank Act § 408 (amending § 208(m) of the Advisers Act to provide an exemption to advisers with less than $150,000,000 in assets under management).
 https://www.sec.gov/divisions/investment/guidance/private-fund-adviser-resources. See also Reporting by Investment Advisers to Private Funds and Certain Commodity Pool Operators and Commodity Trading Advisors on Form PF, Rel. No. IA-3308 (Oct. 31, 2011) [76 FR 71127 (Feb. 11, 2011)] (“Form PF 2011 Adopting Release”), at n.11 and accompanying text, available at https://www.sec.gov/files/rules/final/2011/ia-3308.pdf.
 See Form PF 2023 Adopting Release.
 See, e.g., Form PF 2023 Adopting Release at text accompanying n.252; SEC, 2020 Annual Staff Report Relating to the use of Form PF Data (Nov. 2020), available at https://www.sec.gov/files/2020-pf-report-congress.pdf.
See Form PF 2023 Adopting Release at 92-93.
 See Division of Investment Management, Private Fund Statistics, available at https://www.sec.gov/divisions/investment/private-funds-statistics.shtml.
 See generally Investment Advisers Act of 1940 (54 Stat. 847, 15 U.S.C. 80b-1 - 80b-21)
 Cf. SEC, 2022 Annual Staff Report Relating to the use of Form PF Data (Dec. 2022) at 4-5, available at https://www.sec.gov/files/2022-pf-report-congress.pdf.
 See, e.g., Form PF 2023 Adopting Release at 5 (stating that, in developing the proposed amendments to Form PF, “the Commission and FSOC identified significant information gaps and situations where more granular and timely information would improve our understanding of the private fund industry and the potential systemic risk within it, and improve our ability to protect investors”).
 Cf. Form PF 2023 Adopting Release at 103 (stating that this “new and timely information about stress events at [private] funds will help the Commission and FSOC to assess emerging risk events proactively, and will help the Commission further evaluate the need for outreach, examinations, or investigations, in order to minimize market disruptions”).
 See Form PF; Reporting Requirements for All Filers and Large Hedge Fund Advisers, Rel. No. IA-6083 (“Joint Form PF 2023 Proposing Release”) (Aug. 10, 2022), available at https://www.sec.gov/files/rules/proposed/2022/ia-6083.pdf.
 See Form PF 2023 Adopting Release at 64-68.
 See Form PF 2023 Adopting Release at 56.
 Felix Salmon, AI Will Be at the Center of the Next Financial Crisis, SEC Chair Warns, AXIOS (Aug. 12, 2023), available at https://www.axios.com/2023/08/12/artificial-intelligent-stock-market-algorithms.
 Sotheby’s Auction Catalog, The Magna Carta (Dec. 18, 2007) at 23.
 See, e.g., U.S. Const. amend V.
 Dealbook, Rubenstein Buys Copy of Magna Carta, N.Y. Times (Dec. 19, 2007).
 Christopher Michaud, Magna Carta Fetches $21.3 million at Sotheby’s Auction, Reuters (Dec. 19, 2007).