◼ FINANCE Bloomberg Businessweek June 29, 2020
25
ILLUSTRATION
BY
STELLA
MURPHY
● Thecompoundgainsofequitiesarealsocompounding racial
andeconomicinequality
The Americans
Left Out of the Boom
Overthe pastfewweeks,as crowdsmarched
throughthestreetsofAmericatodemandanend
tosystemicracism,thecountry’sstockinvestors
werebusybiddingupthemarketata dizzyingclip.
Althoughtherallyhascooleda bit,stockvaluations
remainhigh,andthequestionslinger.Doinvestors
notcareaboutwhat’sgoingoninthestreets?Do
theythinknoneofthiswilleveraffectthem?
Nexttoanyanswertothatquestionis a harsh
truth: Stock investing, with the power of
exposure to risky assets as investors reach their
retirement date. Such funds are often the default
investment option in their plan and are chosen
by plan sponsors who are obliged to look out for
employees’ interest. But this may mean that sav-
ers will have to read the fine print to know whether
some of their money is in a private equity fund.
The complexity and illiquidity of PE funds may
be a roadblock for some employers. “It is like a
square peg in a round hole,” says James Veneruso,
who advises on retirement plans at consulting firm
Callan. But that doesn’t mean such challenges can’t
be overcome if funds can make some changes,
including lower fees, he says.
A group of unions and consumer and investor
advocacy organizations, including the Consumer
Federation of America and Public Citizen, sent a
letter to Secretary of Labor Eugene Scalia urging
him to pull the guidance because of “gaping holes
in investor protections.” The organizations ques-
tioned not only whether small-time savers have the
sophistication to make decisions on the asset class,
but also whether employers and others who are in
charge of choosing plan options do.
Proponents of private equity argue that PE funds,
which have long been used in traditional pension
plans, have outperformed public stocks. The indus-
try also cites private equity’s diversification benefits,
as well as the opportunities in the private markets as
the universe of public companies shrinks.
Not everyone agrees that private equity offers
such impressive returns, especially after the man-
gers’ fees. A recent paper by Ludovic Phalippou,
a professor of financial economics at University
of Oxford’s business school, found that private
equity has performed in line with comparable pub-
lic stocks. Large private equity managers have dis-
puted his findings.
One issue is that it’s difficult to agree on the right
benchmark for PE investments—should they be com-
pared to the S&P 500 index or small companies or
global equities? And the way their performance is
commonly cited, as an internal rate of return, can be
confusing and hard to compare to returns reported
by mutual funds. IRR factors in the speed at which
private equity hands back capital to investors after
it’s put to work. “The problem is these numbers are
not what you think they are,” says Phalippou. “These
are not rates of returns that somebody earned on
their capital year after year,” he says.
Lurking behind all this is a broader policy fight.
Regulators in the Trump era have argued that retail
investors should have broader access to a lot of
investments previously limited to wealthy individ-
uals and institutions. Democrats have generally
sought more regulation of financial products, and
some have been critical of private equity, blaming it
for loading up companies with debt and causing lay-
offs and bankruptcies. The government’s approach
could soon change with the presidential election
less than five months away. As a harbinger, six
Democratic senators and Bernie Sanders, the
independent from Vermont, sent a letter to Scalia
urging him to reconsider his decision. �Ben Bain
andSabrinaWillmer
THE BOTTOM LINE If private equity gets into 401(k)s, it may
be layered inside other funds, making it less risky but potentially
harder for savers to spot.