Democrats or Deregulation: the 2020 Presidential Election Will Decide

The 2020 presidential election could trigger an overhaul of private equity regulations, as the Democratic party, if elected into the White House, could unwind the Trump administration’s deregulation efforts. (APK Metropolitan News). The private equity industry is no stranger to change; the past ten years have brought dramatic changes to the industry. First, the private equity industry has grown considerably. The 2020 McKinsey Global Private Equity Markets Review reported there are now approximately 7,000 private equity firms, a 40% increase since 2010. (MJ Hudson). The Securities and Exchange Commission (“SEC”) estimated $2.7 trillion was raised in private markets in 2019, compared to the $1.2 trillion raised in public markets. (Zach Gibson, The Wall Street Journal).

As the private equity industry began to boom in the past ten years, increased regulation followed. Europe’s Alternative Investment Fund Managers Directive (“AIFMD”), regulating alternative investment fund managers of hedge funds, private equity firms, and investment trusts, and the United States’ Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”), an attempt to reduce risk and protect investors, are the most notorious regulations over the past ten years. (MJ Hudson). In its attempt to advocate for a free market and deregulation, the Trump administration targeted the Dodd-Frank Act and the Volcker Rule, a regulation enforced by five different agencies, including the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Office of the Comptroller of the Currency, the Commodity Futures Trading Commission and the Securities and Exchange Commission. (APK Metropolitan News; James Chen, Investopedia; John LaRocca, Markus Bolsinger, & Allie Misner, Dechert LLP). The Volcker Rule is meant to “prohibit banks from making speculative bets with their own capital.” (John LaRocca, Markus Bolsinger, & Allie Misner, Dechert LLP). As a result of the Trump Administration’s efforts, in late 2019 there was a successful roll-back of Dodd-Frank regulations. Id. Accordingly, the process for determining which types of proprietary trading restrictions apply to specific banking entities was simplified. Id. In 2020, the Trump administration was successful in eliminating a three percent cap on bank ownership of venture capital funds and to allow banks to invest in credit funds. (John LaRocca, Markus Bolsinger, & Allie Misner, Dechert LLP; Andrew Ackerman, The Wall Street Journal).

In June of 2020, the Trump administration allowed ordinary investors to use their investment accounts, such as 401(k)s and IRAs to invest in private equity funds. (Matt Stoller, BIG). The SEC worked with the Department of Labor to allow those with retirement plans access to private markets through their 401(k) plans. (APK Metropolitan News). The Secretary of Labor, Eugene Scalia, issued a letter allowing private equity to sell retirement products to everyday investors. (Matt Stoller, BIG). The Department of Labor intends for the rule to make retirement plan fiduciaries choose investments based solely on monetary issues versus also being able to take into account other issues, such as those related to ESG. (APK Metropolitan News). Thirteen senators, including Bernie Sanders and Elizabeth Warren, criticized the Trump administration for allowing corporations to use retirement plans’ private funding. Id. The senators’ letter to Labor Secretary Scalia said, “the actual fact the Division needs to make it simpler for personal fairness corporations to draw employees’ financial savings… raises severe questions relating to each the Division’s dedication to defending employees and retirees.” Id.

The senators are concerned that corporations will violate fiduciary responsibilities when using private funds from retirement plans. Id. The Democratic party supports socially accountable investing, specifically that retirement-plan fiduciaries should consider environmental, social, and governance (“ESG”) standards when choosing investments. Id. As the rule stands, it might prevent fiduciaries from considering ESG standards, which would require increased justification. Joshua Lichtenstein, an accomplice at Ropes & Grey LLP, weighed in on the Department of Labor’s new rule in favor of ESG standards; stating, “if a plan sponsor is offered two funds, one ESG and one not, they must do more work to justify why they might select the ESG fund, and they’d expose themselves to potential litigation.” Id. Other Democrats have criticized the new rule because they believe it will “put workers at risk of losing their pay, their benefits, their jobs, and their livelihoods.” (Alex Hendrie, Washington Examiner).

More recently, in August of 2020, the SEC altered the definition of “accredited investors” to include “holders of entry-level stockbrokers license, ‘knowledgeable employees’ of nonpublic firms and others.” (Zach Gibson, The Wall Street Journal). Previously, investors were accredited if they had $1 million in net worth, excluding their primary residence, or at least $200,000 individually in annual income (or $300,000 with their spouse or spousal equivalent). Id. This shift will allow more individuals to qualify as accredited investors; however, it is unclear how many will qualify.

Raymond Svider, chairman and partner at London-based private equity firm BC Partners, shared his belief that the economic recovery after the COVID-19 pandemic will be slow. (Preeti Singh, The Wall Street Journal). With this in mind, the unwinding of deregulation if presidential candidate Joe Biden is elected could increase impediments to investing. As of July 21, 2020, the private equity industry has spent $91.7 million on the 2020 congressional races and presidential campaigns (Chris Cumming, The Wall Street Journal). Many private equity firms have backed Republican senators to prevent Democrats from controlling both the House and the Senate. Id. The private equity industry prefers a polarized government, making it more challenging to overhaul industry regulations and push unfriendly legislation through Congress. (Justin Mitchell, Buyouts Insider). Josh Kosman, author of the book The Buyout of America, said, “the fear for private equity is the Democrats take Congress… because then you could see some congressional action that perhaps would go in front of Biden that would be tough for him to veto,” and “the private equity industry has done a very effective job of holding back significant changes.” (Justin Mitchell, Buyouts Insider).

While the election will determine the private equity industry’s future, there are benefits to either candidate winning the White House. The Trump Administration has made an effort to increase investment flexibility, allowing the private equity market to flourish. In contrast, the Biden administration would likely increase regulations related to corporate social responsibility to protect investors.