In her May 14 column, “Higher Fees, Deeper Hole,” Times‘ columnist Gretchen Morgenson continues a pattern of mischaracterizing the private equity industry. In this instance, she questions the industry’s benefit to pensioners and taxpayers by deliberately conflating private equity’s performance with other alternative asset classes.
The fact remains that private equity is the best performing asset class for U.S. public pensions in 10-year median annualized returns at over 11 percent, net of fees.
Ms. Morgenson focuses her piece on the Teachers’ Retirement System of the State of Illinois, with the insinuation that the pension pays too much in fees for private equity. However, she only presents an isolated data point to support her argument. As investment analysts know, one data point is not indicative of a trend. Looking at a fuller picture shows that net of fees, private equity is providing strong returns for TRS Illinois retirees.
TRS of the State of Illinois manages a portfolio invested in diverse strategies. The June 30, 2016 CAFR (p. 63) shows that, when looking at annualized net-of-fee time-weighted rates of return, private equity is the best performing asset class on a 10-year basis. Private equity returned an annualized 9.7%, compared to U.S. equity at 6.7% and TRS total fund at 5.4%.
During this 10-year period, private equity beat “the market.” Will private equity or any asset class beat a specific index each and every year? No, this is the purpose of diversifying the portfolio.
Ms. Morgenson notes that private equity at TRS of the State of Illinois “underperformed the rise in the Standard & Poor’s 500-stock index” in the 2016 fiscal year. The value of the S&P 500 fell slightly between 7/1/2015 and 6/30/2016, and private equity returned 1% to TRS of the State of Illinois during this period. Contrary to Ms. Morgenson’s assertion, private equity performed better than the index. Nonetheless, focusing on one year returns ignores strong returns of other years. For instance, in FY 2014, private equity returned 23.7%, while the S&P 500 only gained 16%.
Perhaps the best rebuttal to Ms. Morgenson’s claims comes from pensions themselves. CalPERS, the largest U.S.-based pension, summarized its private equity portfolio this way:
“The important role of private equity investments is clear. Since 1990, they have earned more than $24 billion, after all fees and expenses, for our members, employers and taxpayers. An analysis using actual historic stock returns shows that if CalPERS had invested these assets in the stock market instead, it would have missed out on as much as $17 billion in gains. These are real dollars that benefit local economies and help retirees live meaningful lives after careers in public service.”*
In short, inflammatory columns may draw reader attention, but they do a disservice to readers seeking the truth about private equity and the positive alignment of interests between fund managers, portfolio companies, and limited partners such as U.S. pensions.