The U.S. investment industry’s top regulator has called for far-reaching reforms of the fast-growing $ 4.2tn private equity industry, proposing rules to ensure clearer disclosure of fund spending and their performance metrics.
Gary Gensler, chairman of the Securities and Exchange Commission, said he wanted to simplify and standardize fee disclosure, which has become increasingly complex as private equity firms introduce new low levies for consulting and handling their portfolio companies’ capital market transactions.
“It is time that we see the rapid growth and changes in [private funds]”Gensler said during a conference in Washington organized by the Institutional Limited Partners Association on Wednesday, a trading body representing investors.
“I wonder if limited partners have the consistent, comparable information they need to make informed investment decisions,” he added. “I think we can promote additional transparency about fees and expenses to finance investors.”
The call to increase transparency and strengthen investor protection comes as many private equity firms add multiple layers to their standard management and performance fees. Additional expenses include levies for the “monitoring” of portfolio companies, “transaction fees” for acquisitions or public offerings, as well as “advisory fees” on their operating recommendations.
Gensler quoted a recent Financial Times report which highlighted investors’ frustration with these low additional fees, which may even include the cost of renting private jets.
The SEC’s review, Gensler said, is aimed at lowering the overall cost of private equity funds as private markets play an increasingly important role in overall U.S. financial markets. Private equity and hedge funds together manage about $ 9 billion in assets and demand about $ 250 billion in expenses annually.
“Overall, it is quite important for our economy and our capital markets. “Hundreds of billions of dollars in fees and expenses lie between investors and businesses,” Gensler said. “More competition and transparency could potentially bring greater efficiency to this important part of the capital markets.”
Gensler also pointed to the performance of private equity funds and its relative performance vis-à-vis stock and bond markets as a possible area of investigation. “[Basic] facts about private funds are not so readily available – not only to the public, but even to the investors themselves. ”
The SEC chairman also called for reforms of the so-called side letters that allow institutional investors to negotiate specific terms with private equity managers – a practice that could lead to institutional investors paying significantly different fees, or having different levels of liquidity. .
“It can be an uneven playing field between [investors] based on those negotiated terms, ”Gensler said. “Research in this area indicates that similar pension plans consistently pay different private equity fees. The range of fees can be large. ”
Private equity managers are required to perform a fiduciary duty towards their clients. But Gensler noted that top executives at private equity firms often provide waivers or amendments to some of these duties.
“Do not make a mistake. Contract terms pretending to waive the adviser’s federal fiduciary duty are inconsistent with [the law], “he said.
Igor Rozenblit, founder of the Iron Road Partners consulting firm and a former senior SEC regulator, said Gensler’s agenda “has the potential to change the private equity business forever”.
“It remains to be seen whether all of these rules will be proposed and eventually implemented, but this is the most extensive private equity agenda since Dodd-Frank,” he added. “There is also considerable potential for unintended and unforeseen consequences. Only time will tell the true impact. ”