The bigger story of how private equity corrupts

Eric Garland Finance Trends, Guitar Center 1 Comment

The other day I was talking with a friend of mine who does intelligence for large corporations. We were discussing my latest on Guitar Center’s subprime bond hustle and she said, “You should talk with Yves Smith from Naked Capitalism – her work on private equity suckering pension funds like CalPERS is a lot like what you are uncovering.” Six hours later, I got an unsolicited email from Ms. Smith, with whom I was not acquainted, asking if she could cross-post my “How to get beyond the parasite economy” in its entirety.

The piece is now up on her blog, one of the top economics sites in the English-speaking world, with some nice additions. I liked her intro:

Reader Lance N pointed me to an article on private equity by Eric Garland, a trend maven. I must confess that I’m skeptical of that breed (too many of them rely on devising clever buzz phrases to describe leading edge conventional wisdom), but even people who knew the transactions Garland discusses in his post were impressed with his grasp.

Garland uses the story of how the tender ministrations of Bain Capital pushed the music big box retailer Guitar Center into the bankruptcy-equivalent of a restructuring as a window into, as he puts it:

“…how a small number of citizens can subvert every product made, every job offered, and every purchase decision – and how we can regain control of our lives, starting with the musical instrument industry.”

We’ve been focusing on the investor side of private equity in our recent posts because its influence and its ability to maintain unheard-of levels of secrecy depends on the belief that long-term investors like pension funds can’t afford not to invest as much as they possibly can, after allowing for liquidity and diversification needs, in PE, because it is widely believed to deliver superior returns. But life insurers who also have long-term investment horizons, are for the most part not large investors in this strategy, because the rating agencies regard it as too risky for them to tie up all that much capital in it (as in they need more liquidity). So if the ratings agencies discourage investment in PE, and life insurers manage to do without it, pray tell why is it perceived to be necessary? The answer, of course, lies in pricing, or more precisely, the aggressive return assumptions that are widely used in defined benefit plans.*

And while we continue digging into the details that the private equity industry has worked so hard to shroud in secrecy, it’s important not to lose sight of the real economy consequences of this well-orchestrated wealth transfer scheme.

First, I’m especially pleased that Ms. Smith is skeptical of my ilk. God help me if it still said “futurist.” But in my mind, the work had better transcend the titles, and I’m glad if they think it did.

As to the wealth transfer scheme: It looks less well-orchestrated every day.