Editorial: Wall Street won

[STRS Ohio Watchdogs]

THE BLADE EDITORIAL BOARD
August 27, 2023

The Securities and Exchange Commission has finally moved to require more transparency and accountability from private equity investment accounts, in which Ohio’s public pensions have too much of Ohio retirees’ funds invested.

The SEC’s new private equity regulations approved Wednesday on a 3-2 vote do not go far enough, but it’s a slight move in the right direction.

Private equity investing is practically a black box. The Blade Editorial Board has warned repeatedly that Ohio public pensions are taking foolish risks with billions of dollars in investments they can’t identify at a cost they cannot confirm. (“Ohio pension results hinge on private equity,” Aug 21, 2022)

Thanks to public pensions, the massive private funds now have more assets under management than reside in all U.S. banks. While it is good news that the $25 trillion is now subject to new disclosure rules, it is bad news that the proposal was greatly weakened following huge pressure from public equity titans.

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The SEC mandates quarterly statements from private funds detailing performance, fees, and expenses. Chairman Gary Gensler says this basic requirement will bring “transparency and integrity” to private equity.

Assuming information is power, the SEC expects costs to fall as pension fund boards finally have the data they need to find the best private equity values.

But the self-dealing conflicts of interest too often found in the private equity contracts that were made illegal in the original SEC proposal has been watered down to a disclosure requirement.

The other major proposal to make it easy for limited partners to sue fund managers that violate fiduciary duty through self-dealing was removed from the rules approved Wednesday. Naive pensions like Ohio’s five public funds will surely continue signing contracts that restrict disputes to arbitration.

Not content with their victory of weakened regulations, the Managed Funds Association claims the rules will increase costs, undermine competition, and reduce opportunities for pensions, foundations, and endowments. The private equity advocates threaten to sue, claiming the SEC does not have regulatory authority because all of the parties involved are sophisticated investors exempt from SEC protection.

The arrogance required to argue an arm of finance controlling more funds than heavily regulated banks should have no effective oversight should be crushed in court if the private equity pirates are bold enough to bring the case.

The Ohio pension funds combine to total more than $200 billion, with more that $40 billion in blind private equity deals. That vast pool of capital does not make Ohio pensions sophisticated, it makes them an easy target for one-sided deals facilitated by strategic campaign contributions laundered through national political organizations.

An example of permitted self-dealing is the widespread practice of selling assets from one fund to another fund controlled by the same management company. Rather than prohibit this clear conflict of interest, the SEC requires an outside fairness opinion. Anyone who remembers the investment grade bond ratings on sub-prime mortgages which sparked the global financial collapse in 2008 understands the ability to buy the desired analysis is a Wall Street profit center.

All Ohio public pension funds should share the new data on private equity fees, expenses, and performance on their internet sites. This is information Ohio and the other states should have been requiring in their private equity contracts. The SEC rules were necessary to protect pension beneficiaries because the boards supposed to perform this basic oversight function have not done so.

In Ohio, the auditor of state has the legal power to penetrate any pension fund financial deal but none has done so despite ever-increasing allocations to private equity and clearly documented conflicts of interest.

The new SEC rules on private equity are better than nothing but far from what is needed and while celebrated in Washington as a success really amount to regulatory failure.

The private equity complaints don’t conceal the fact Wall Street won again.