Pension fund fees fight: state vs. Wall Street?

A proposed ban on fees paid to middlemen for investments from public pension funds, prompted in part by about $60 million collected by the small firm of former CalPERS board member Al Villalobos, may turn into a fight with big Wall Street firms.

Legislation sponsored by CalPERS and two state elected officials, Treasurer Bill Lockyer and Controller John Chiang, would require “placement agents” that help investment firms get pension fund money to register as lobbyists.

The big Wall Street firms reportedly have no problem with registering as lobbyists and playing by the rules that require quarterly reports on fees, put strict limits on gifts and prohibit campaign contributions.

But the big firms oppose a provision in AB 1743 by Assemblyman Ed Hernandez, D-West Covina, that would ban “contingency fees” based on whether placement agents are successful in getting pension funds, often 1 or 2 percent of the total investment.

An association representing the big firms, and small ones as well, argues that the securities industry works on contingency fees, rewarding performance with a piece of the action, and that a ban on the fees amounts to a ban on placement agents.

“Some folks are gearing up for a very big fight,” Steve Coony, Lockyer’s representative, told the CalPERS board this week. “And they may not be the folks you think would be fighting, and the issue may not be the one you would guess.”

Although the Villalobos firm, Arvco, led the top 10 list of placement agent fees released by CalPERS in January, many of the fees were collected by major Wall Street investment banks.

“Looking at the list, this is a fight, the banks versus the state of California on an ethics issue,” said Coony, “and I think given who they are, and the other problems that they have with their public image, that this might be a fight they want to think twice about.”

Wall Street firms were at the center of the financial crisis resulting from the massive global sale of complex top-rated mortgage securities backed by insurance-like deals, which later became “toxic” and of little or no value.

“They have hired some very high-powered lobbying firms and non-lobbyists — California Strategies, which tries to influence decisions both through the lobbying arm and non-lobbying arm,” Coony said. “These are the folks we are up against. It’s a real fight. It’s an important fight, and I just don’t want to underestimate.”

Coony emphasized that the fight is not with individuals who collected large fees or with small placement agent firms or other individuals.

“This really is about some very big organizations that have lots and lots of ways to make profits,” he said. “And they have lots and lots of ways to charge fees — and really could probably subtract this particular way of earning fees from their repertoire and not do any particular damage to the fees they are earning nationwide.”

The little-known placement agents moved into the spotlight last year in a public pension fund scandal in New York, where kickbacks for investments have resulted in a half dozen guilty pleas so far and an outright ban on placement agents.

The proposed fee ban comes as the $206 billion California Public Employees Retirement System and the $132 billion California State Teachers Retirement System are increasing private equity investments to 14 and 12 percent, respectively, of their holdings.

Nearly all of the fees collected by the Villalobos firm, Arvco, were paid by private equity firms that make debt-ridden leveraged buyouts of companies, provide funding for growing and startup firms and specialize in other types of investments.

Hundreds of private equity firms, large and small, are scrambling to make pitches to pension funds. Investment firms want to continue to be able to provide the standard fee incentive in a very competitive business.

“We believe that a ban on contingency fees for professional placement agents is effectively a ban on the services they provide,” Andrew DeSouza, a spokesman for the Securities Industry and Financial Markets Association said via e-mail.

“Professional placement agents expose public pension plans and retirement systems to a variety of different investment options that might not otherwise have come to their attention,” DeSouza said.

“This includes smaller funds, new entrants, women and minority-run funds, and certain niche investments, such as health care and renewable resources. The work that professional placement agents do is quite different from those of so-called ‘finders,’ who have a limited role of only ‘opening doors’ to a small group of California pension funds.”

If the Villalobos firm is a ‘finder,’ the ‘opening of doors’ is a lucrative business. Arvco received more than $13 million from one of Leon Black’s Apollo funds for a single CalPERS investment deal.

“The message we’re sending is that we won’t let a few placement agents damage the credibility of our public pension plans,” Assemblyman Hernandez said in a news release last month announcing the introduction of his bill. “The focus is on full disclosure and protecting the system from any kind of improper influence.”

At the CalPERS board meeting this week, member Dan Dunmoyer said he had received about 20 letters on the issue of whether a fee ban gives an advantage to large firms, which can use firm-wide bonuses and other means to increase pay.

Dunmoyer said he likes the board’s position on the legislation, but was curious about how to respond to the argument that a ban on contingency fees would basically be “shutting down small firms.”

Joe Dear, the CalPERS chief investment officer, said that less than half of the small funds that have approached CalPERS used a placement agent.

“So there is clear evidence in past practice that it’s possible to develop an investment relationship with us by making a normal approach without the assistance of a contingent-paid placement agent,” he said.

Moreover, Dear said, CalPERS has created a “single point of contact” so funds know who to approach and has also hired a new investment officer to reach out to diverse investment funds.

He said it’s “my commitment that no investment manager should feel required to hire a placement agent in order to get their proposals in front of CalPERS. And of course, that doesn’t mean that all the proposals we will receive will result in an investment.”

One of the arguments CalPERS thinks may be used against the Hernandez bill is that a private agency funded by the industry, the Financial Industry Regulatory Authority, said this week it will issue rules covering placement agents.

The U.S. Securities and Exchange Commission asked FINRA to consider issuing rules to regulate placement agents as broker-dealers, an alternative to an SEC proposal to ban placement agents.

“I am delighted to state that we are in a position to promulgate such a rule,” Robert Ketchum, the FINRA chairman, said in a letter to the SEC on Monday. “We believe that the FINRA proposal should impose regulatory requirements on member broker-dealer placement agents as rigorous and expansive as would be imposed by the SEC on investment advisors.”

Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at Posted 19 Mar 10

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