The industry has more than $4 trillion in assets under management and in the United States, private equity-backed companies employ about 11.5 million people, according to data from the American Investment Council, an organization that serves the interests of private equity. By comparison, America’s largest commercial employer, Walmart Inc., has about 2.3 million employees.
After a banner year for deals in 2021, where private equity deals accounted for nearly a quarter of the $5 trillion in total M&As, the sector’s influence will continue to grow. The buyout funds have about $2 trillion to spend if you include debt they can use for transactions. Some bankers think the first $50 billion buyout is not far off. The $34 billion takeover of Medline Industries Inc. last year was the largest since the 2008 crisis and one of the largest on record.
The SEC has proposed rule changes to require quarterly reports to investors, annual audits and greater disclosure of fees, particularly those that private equity managers charge companies they own. It will also prohibit preferential treatment of some investors over others.
This doesn’t come from a vacuum: the rules are designed to address wrongdoing discovered by the SEC. Gensler also complained about the difficulty of tracking and comparing investment returns between private fund managers.
Industry bodies were quick to complain that the SEC is overstepping its mark. The regulator should focus on protecting unsophisticated retail investors, they say. The American Investment Council and the Managed Funds Association, which represents hedge funds, say the changes would hurt the pension funds, endowments and foundations that invest the most money in alternative asset managers.
Of course, reporting and auditing requirements will impose costs, which will hurt returns. Prohibiting preferential treatment of some investors over others will undoubtedly cost those who get better deals. This includes things like lower management fees for some investors, easier or faster access to their money, or more information about fund holdings. Those who don’t get the VIP treatment will applaud this change, as will anyone with a simple sense of fairness.
But what really undermines the lobbyists’ complaints is that sophisticated investors themselves have asked for help. A group that represents large investors, the Institutional Limited Partners Association, wrote to Gensler last October asking the SEC to force greater disclosure of fees and charges.
The distinction between retail investors and sophisticated institutions is also exaggerated. The boards that run pension funds aren’t filled with finance professionals fresh out of Wall Street careers who are used to tearing down dizzying schedules of internal rates of return and trying to compare over a decade with the returns they might have gotten from the S&P 500.
Ordinary people have entrusted their retirement savings to pension board members for decades — and those trustees aren’t much more sophisticated than many retail investors. The length and complexity, as well as the lack of transparency, create an accountability problem throughout the system. And at the end of the chain, it’s the people saving for retirement who get the least amount of information and end up paying all the costs.
By the time a pension fund gets back the money it committed to a private equity fund – which is the only time you can really be sure of the return you’ve actually made – a decade may have passed elapsed and the people responsible for the investment may be long gone. More of the biggest hedge funds are also requiring investors to tie up their money longer and invest in private equity as well, doubling down on high fees.
Indeed, Gensler’s changes target not only the $4 trillion private equity industry and the equally large hedge fund industry, but also public, municipal and private pension plans themselves. That’s why he talks about private funds with gross assets of over $18 trillion that will be subject to the new rules.
More regulation is inevitable, especially at the top of the alternative industry, where the biggest companies have become more diversified investment and banking groups. Companies like Apollo Global Management, Blackstone Inc., and KKR & Co. already manage ordinary people’s money directly through their insurance businesses; in the capital markets, they act both as buyers and sellers of private and public debt and equity.
Private equity and hedge funds are, they say, the best and smartest investors: they can find the right things to buy, make their operations and finances more efficient, act quickly and decisively where companies or other investors need money fast. This generates excess profits for which investors are supposed to give up 20% of their returns.
If spending a little on audit fees and extra accounting and investor relations staff is going to undermine the profits any investment skill can generate, then maybe that skill was never really worth much value. .
More from Bloomberg Opinion:
• How venture capital created the modern world: Adrian Wooldridge
• Hedge funds and the art of “false happiness”: Marc Rubinstein
• German tabloid scandal is ESG stress test for KKR: Chris Hughes
This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.
Paul J. Davies is a Bloomberg Opinion columnist covering banking and finance. He previously worked for the Wall Street Journal and the Financial Times.