What Public Pensions Pay When They Chase Private Equity

Private assets under management are expected to exceed $17 trillion by 2025, a 60% increase over 2020, driven largely by defined-benefit public pension plans seeking returns above what bonds and stocks provide. As public capital has flowed into private markets, scrutiny of fees has intensified. In February, the Securities and Exchange Commission proposed that private equity funds report standardized quarterly data on fees, expenses and performance, following a "risk alert" in which the regulator found some funds had presented misleading performance information and overcharged investors. Standard private equity terms are "2 and 20," a 2% annual management fee and a 20% performance fee above a benchmark, with additional expenses such as consulting and legal costs that portfolio companies may pass through to investors.

In a recent paper, Juliane Begenau, an associate professor of finance at Stanford Graduate School of Business, and Emil Siriwardane of Harvard Business School examine how these fees vary across investors. Begenau compared two investors who entered the same fund simultaneously; their net returns were similar for the first decade, after which a gap emerged, with one earning $1.62 per dollar invested and the other $1.54, indicating different fee treatment. Across the dataset, the average within-fund divergence is 0.91% for management fees and 5.8% for carry. Private debt and real estate funds show the largest performance-fee deviations, at 6.8% and 6.4%, while venture capital carry dispersion is only 0.5%, reflecting standardized investor contracts.

The study attributes fee tiering to several factors. Law firm choice is a key determinant, which Begenau describes as pointing to a contract-based explanation. Venture capital funds are 33 percentage points less likely to tier investors than private equity funds and 48 points less likely than infrastructure funds. Managers without an established track record are 13 percentage points more likely to tier, and undersubscribed funds are 12 points more likely. Funds using placement agents are also more likely to tier fees, which Begenau says may reflect agents' cuts being passed to investors. Fee breaks may also serve as signaling: managers facing long fundraising timelines may cut fees to attract large anchor investors. "You may cut a deal to get CalPERS on board," Begenau said. Larger pensions and those contributing more capital tend to land in the lowest tiers, and better-governed pensions with stronger track records also pay less.

Begenau links these outcomes to labor-market constraints, noting that public pension investment talent is not fluid and often has price caps, making efficient negotiation difficult. She cautions that the forgone capital does not necessarily signal suboptimal behavior, since some pensions may trade higher fees for access to more skilled managers. "If you overpay you may still come out ahead," she said. Begenau concluded that pensions will continue paying different prices for private market access until fee transparency improves, while cautioning that imposing uniform fees could cause some managers to withdraw from public pension investing.