The political risks faced by the private equity industry yet again came into view this week when the governor-elect of New Jersey, Republican Chris Christie, asked the state to halt all alternative investments.
It is unclear what view Christie has on alternatives. However, he has been clear he intends to implement 14 emergency measures to prevent the “budget hole we are in from deepening”. One of those measures was asking the state government to “freeze the retention of all new outside professionals, manager selections, and new contracts for managing alternative investments with respect to New Jersey’s pension funds”.
A Treasury department source stressed the freeze is temporary, so as to allow a thorough review of the alternative investment programme. But it’s a worrying move for those who have watched political forces previously try to derail the state’s investments in alternative asset classes – and for those familiar with private equity inappropriately bearing the brunt of public rage against “Wall Street excesses”.
New Jersey’s $68 billion pension has been investing in private equity only since 2005, when the investment council approved a 13 percent allocation to the private equity, hedge funds and real estate. In its first year, for example, it made more than $300 million in private equity commitments to firms including Warburg Pincus and Oak Hill Partners.
But from the beginning, political forces tried to counter the pension’s move into alternatives. Two labour unions sued New Jersey’s Treasury department to prevent it from hiring outside investment managers to take on the alternatives mandate. At the time, the suit argued the state lacked authority to hire outside money managers.
As the programme moved forward, New Jersey’s pension, like other public pensions in the US, suffered a decline in the value of its assets during the financial meltdown, prompting an executive from the US’ largest trade union to ask whether it was possible for the pension to unwind its alternative investments.
Whether or not Christie buys into the “alternatives are at fault” mentality remains to be seen. During his campaign for governor, Christie notably attacked outgoing governor Jon Corzine – former Goldman Sachs chief executives – for his ties to Wall Street.
It’s important to note that New Jersey has not been caught up in the pay-to-play debacle, which many other public pensions are struggling to sort through. But for a self-proclaimed reformer like Christie, some of the corruption that has been unearthed in alternatives industry over the past year could become political fodder as the new governor tries to score political points with constituents.
A cheap and easy political play could involve rooting out some of the “risky” alternatives investments in an effort to stabilise the sadly underfunded pension. Forget that there may be no real logic in such a move, or that “reviewing” a 3-year-old private equity portfolio’s performance will provide a poor picture of potential returns – the perception of ridding pensioners’ portfolios of exotic risk will always be an easy sell for a public that lacks an understanding of the asset class.
Even if the bulk of LP commitments are likely to come from other places as the industry matures, US public pensions continue to be the backbone of the LP community, both in terms of capital and influence. To be sure, Governor Christie is not the biggest problem facing the private equity world. But the prospect of his intervention in New Jersey is yet another reminder that as far as political point scoring is concerned, especially in the post-crisis environment, the industry remains a vulnerable target.