A Wall Street Time Bomb
(AP Photo/Mary Altaffer, File)
After reaping huge fees off workers’ savings, private equity firms’ subterfuge could imperil promised benefits for millions of workers and retirees.
by David Sirota
As public officials across America prepare to funnel even more of government workers’ savings to private equity moguls, an alarm just sounded for anyone bothering to listen. It is a warning that Wall Street executives want you to ignore as they skim fees off retirement nest-eggs – but the longer the warning goes unheeded, the bigger the financial time bomb may be for workers, retirees, and the governments that pay them.
Earlier this month, Pitchbook — the premiere news outlet for the private equity industry — declared that “private equity returns are a major threat to pension plans' ability to pay retirees in 2023.”
With more than one in ten public pension dollars invested in private equity assets — and with states continuing to keep their private equity contracts secret — Pitchbook cited a new study finding that losses from the investments may be on the horizon for retirement systems that support millions of teachers, firefighters, first responders, and other government employees.
“Private equity returns get reported on a lag of up to six months, and with each update in 2022 values were coming down — which means 2022 numbers were including overstated private equity asset valuations and 2023 numbers are going to incorporate those losses,” noted the study from the Equable Institute.
To comprehend this time bomb, you have to understand private equity’s business model.
In general, private equity firms use pension money to buy up and restructure companies to then sell them at a higher price than they were purchased. In between buying and selling, there are no transparent metrics for valuing the purchased asset — private equity firms can manufacture an alleged value to tell pension investors (and there’s evidence they inflate valuations when seeking new investments).
In a story about an investor receiving two different valuations for the same company, Institutional Investor underscored the absurdity: “Everyone Wants to Know What Private Assets Are Really Worth. The Truth: It’s Complicated.”
Meanwhile, valuation and fee terms in contracts between private equity firms and public pensions are kept secret, exempt from open records laws.
With that in mind, the new warnings are simple: Private equity firms may have told their pension officials that their assets were worth much more than they actually are, all while the firms were skimming billions of dollars of fees off retirees’ money.
If writedowns now happen, it could mean that when it’s time to sell the assets to pay promised retiree benefits, pension funds would have far less money available than private equity firms led them to believe. At that point, there are three painful choices: cut retirement benefits, slash social programs to fund the benefits, or raise taxes to recoup the losses.
Signs of a doomsday scenario are already evident: Some of the world’s largest private equity firms have been reporting big declines in earnings, and federal regulators are reportedly intensifying their scrutiny of the industry’s writedowns of asset valuations. Meanwhile, one investment bank reported that in its 2021 transactions, private equity assets sold for just 86 percent of their stated value last year.
But while pensioners may be imperiled, Wall Street executives are protected thanks to their heads-we-win-tails-you-lose business model: Some of the firms managing pensioners’ money are reporting asset losses for investors, while raking in even more fees from investors and continuing to raise executives’ pay.
Meanwhile, even as some sophisticated private investors rush to get out of private equity, the world’s largest private equity firm, the Blackstone Group, recently reassured Wall Street analysts that state pension officials will continue using retirees’ savings to boost revenues for private equity firms, hedge funds, real estate funds, and other so-called “alternative investments.”