Key Takeaways
- • CalPERS CIO Stephen Gilmore warns institutional investors against treating private-equity co-investments as a cost-reduction or return-enhancement panacea, citing "adverse selection" risks in deal quality.
- • The $503 billion California pension fund must maintain status as a major client with private equity managers to secure access to high-quality direct deal flow, according to Gilmore's statement at Monday's investment committee meeting.
- • Adverse selection in co-investments occurs when institutional investors without sufficient negotiating leverage receive lower-quality deal opportunities from their general partners, undermining the premise that co-investments deliver superior economics.
- • CalPERS has historically underperformed in co-investments, reflecting a long-term trend the pension is currently working to correct through its investment program overhaul.
Summary
Stephen Gilmore, the newly appointed chief investment officer of the California Public Employees' Retirement System, has issued a cautionary statement regarding private-equity co-investments, challenging a common institutional narrative that direct deals offer reliable cost and return benefits. Speaking at CalPERS' investment committee meeting on Monday, Gilmore emphasized that the $503 billion pension fund must position itself among the most significant clients of its private equity managers to secure access to superior deal flow.
The core concern Gilmore raised centers on "adverse selection"—a structural risk whereby institutional investors lacking substantial leverage with general partners receive lower-quality co-investment opportunities. This dynamic directly undermines the stated rationale for co-investment programs: namely, that direct deal participation provides enhanced returns and reduced fee burdens compared to traditional fund investments. Gilmore's remarks suggest that GP-LP relationships fundamentally determine deal access quality, and that size and negotiating power matter considerably in private equity markets.
CalPERS' historical experience validates this concern. The pension has experienced an extended period of co-investment underperformance, a trend the institution is currently attempting to reverse through comprehensive program revisions. Gilmore's public warning signals that CalPERS intends to recalibrate its approach to direct deal participation, likely focusing on deepening relationships with top-tier managers where the fund's substantial capital base provides genuine negotiating leverage and priority access to proprietary deal flow.
For institutional investors evaluating co-investment participation, Gilmore's commentary carries significant implications. The advisory suggests that co-investment success requires scale, manager relationship strength, and active portfolio management discipline—conditions not universally available to mid-sized or smaller limited partners. Investors without sufficient capital or strategic importance to their GPs may face a structural disadvantage in accessing co-investment opportunities comparable to those available through primary fund commitments.
The core concern Gilmore raised centers on "adverse selection"—a structural risk whereby institutional investors lacking substantial leverage with general partners receive lower-quality co-investment opportunities. This dynamic directly undermines the stated rationale for co-investment programs: namely, that direct deal participation provides enhanced returns and reduced fee burdens compared to traditional fund investments. Gilmore's remarks suggest that GP-LP relationships fundamentally determine deal access quality, and that size and negotiating power matter considerably in private equity markets.
CalPERS' historical experience validates this concern. The pension has experienced an extended period of co-investment underperformance, a trend the institution is currently attempting to reverse through comprehensive program revisions. Gilmore's public warning signals that CalPERS intends to recalibrate its approach to direct deal participation, likely focusing on deepening relationships with top-tier managers where the fund's substantial capital base provides genuine negotiating leverage and priority access to proprietary deal flow.
For institutional investors evaluating co-investment participation, Gilmore's commentary carries significant implications. The advisory suggests that co-investment success requires scale, manager relationship strength, and active portfolio management discipline—conditions not universally available to mid-sized or smaller limited partners. Investors without sufficient capital or strategic importance to their GPs may face a structural disadvantage in accessing co-investment opportunities comparable to those available through primary fund commitments.
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