$45 Billion: That’s What This Study Says Pensions Lost in Private Equity Gains

Some pension funds “systematically pay more fees,” researchers from Harvard and Stanford found.

Illustration by II

Illustration by II

Some pension funds have given up billions of dollars in private equity gains because of their fee structures, according to research from Harvard University and Stanford University.

“Some pensions systematically pay more fees than others when investing in the same fund,” Stanford professor Juliane Begenau and Harvard professor Emil Siriwardane said in a recent research paper. The “large variation in net-of-fee performance” suggests that pension funds could have earned $45 billion more in gains.

The paper shines a light on privately-negotiated fees as pension funds increasingly shift capital into private equity. Size, relationships, and governance account for a “modest amount” of the variation, the researchers found, meaning “similar pensions consistently pay different fees.”

The authors overcame the problem of opacity in private markets by studying cash flows pensions received from the same private equity funds, net of fees, from 1990 to 2018. Their sample covered $500 billion of investments made by 200 U.S. pensions into 2,600 private market funds, with the definition of fees spanning all costs, including management and performance fees.

“Public pensions investing in the same private-market fund can experience very different returns,” the researchers said in the paper. They “could have earned $8.50 more per $100 invested had they each received the fee structure of the best observed pension in their respective funds.”


After controlling for size, the researchers still found large variations, suggesting that “pensions may differ in how they value a fee structure within a private-market fund,” the authors said. For example, pensions that are more risk-adverse might prefer fees that are lower for performance and higher for management — a structure resulting in less volatile cash flow streams, according to the paper.

The researchers also considered that private equity firms might offer different contracts to investors because some may be more expensive as a partner. Compared to family offices or endowments, public pensions may be costlier due to their more “stringent reporting requirements,” the authors suggested.

“We only analyze public pensions,” they said. “Marginal servicing costs seem unlikely to vary within this group because pensions have relatively homogenous reporting and compliance requirements.”

[II Deep Dive: Texas Teachers Set to Expand Investment Staff]

Pensions may be willing to pay fees at varying levels because they have different beliefs about gross fund returns. Such a discrepancy may arise from the different levels of information they have about a private equity manager’s skill, according to the paper. Private equity managers, meanwhile, may give fee breaks to large pensions with whom they have strong relationships, a move that presumably aids in capital raising by “sending a signal to less informed investors.”

But after controlling for “information edges and signaling effects,” the researchers still found some pension are systematically paying more for investing in the same fund.

In some cases, the return on their private equity investments could have been much larger under a different fee structure.

“Some pensions could have earned as much as $15 more per $100 more on their investments,” the researchers said.