Like other pension funds, CalPERS relies on private equity investing to meet its ambitious annual return target of 7.5% and keep pace with ever-growing obligations to its 1.7 million current and future retirees.
By Dean Starkman
August 3, 2015
CalPERS is finally about to reveal how much it really pays Wall Street for its most rarefied services — and taxpayers can expect a dose of sticker shock.
Last month, the California Public Employees’ Retirement System announced with some fanfare that it would disclose the full amount it pays for private equity investing, the high-stakes, high-reward business of buying and selling whole companies dominated by massive global players such as Carlyle Group, Kohlberg Kravis & Roberts and Blackstone Group.
At issue are the performance bonuses, known as carried interest, which for decades have been collected by Wall Street giants as part of their compensation, but have not been disclosed by pension funds to the public. Typically, the bonuses are 20% of profits over a certain target that come on top of a 2% management fee, a formula known as 2-and-20.
Private equity observers say the figure will be big, and its release could usher in a new era of greater disclosure and more public pressure to lower fees.
“All pension funds are going to be embarrassed when they have to reveal just how much they are actually paying private equity in performance fees,” said Eileen Appelbaum, senior economist at the Center for Economic and Policy Research, a Washington think tank, and author of “Private Equity at Work: When Wall Street Manages Main Street.”
“And once CalPERS publishes what it has paid, it will be difficult for CalSTRS (California State Teachers’ Retirement System) and other pension funds to refuse to do so. The amounts are going to be ginormous, and public officials are going to ask whether these payments … are warranted.”
Wylie A. Tollette, CalPERS’ chief operating investment officer, said CalPERS plans to disclose the grand total of carried interest it has paid out from funds operating since 1998, and “it’s going to be in the billions.”
“It’s a dilemma,” he added. “You don’t want it to be astronomically high because that represents profits that you wanted to grab for yourself.” But he said CalPERS needs the high returns private equity traditionally has provided, and the fee figure represents the going rate.
The stakes are large. Like other pension funds, CalPERS relies on private equity to meet its ambitious annual return target of 7.5% and keep pace with ever-growing obligations to its 1.7 million current and future retirees. When investment returns fall short, the system turns to taxpayers to make up the shortfall — a challenge for communities struggling with retirement costs they say are already unsustainable.
For the year that ended June 30, for instance, CalPERS’ $28.9-billion private equity portfolio handily beat stocks and bonds with a return of 8.9% — and that was a down year — while CalPERS’ massive $162.6-billion in stock holdings returned just 1%. Private equity represents about 10% of CalPERS’ $302-billion total fund.
Those kinds of outsized returns have helped insulate the private equity industry from a chorus of criticism for its high costs, complexity and murky disclosure.
The issue flared up at a CalPERS investment board meeting in April when, under questioning from board member J.J. Jelincic, Tollette couldn’t provide a figure and acknowledged that the fees were “not explicitly disclosed or accounted for. We can’t track it today.” Although CalPERS’ pending disclosure is intended to quiet critics, some aren’t impressed.
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