Abstract
On April 3, the trade journal Chief Investment Officer published an article entitled “Why Infrastructure Investments Are the New Bonds.” Institutional investors, it noted, have increased their allocations to infrastructure of all kinds, enticed by a mix of steady cash flows and protection against unexpected inflation. From the vantage point of the magazine, infrastructure’s primary role is not to provide electricity, clean water, or bus service to the public but to help institutional investors meet their liabilities.
Brett Christophers’ Our Lives in Their Portfolios: Why Asset Managers Own the World maps the global rise of asset managers’ control of infrastructure and other real assets central to our daily lives. It is also a critical account of the structural problems with these arrangements. Drawing on industry publications and academic literature across several disciplines, Christophers demonstrates that asset managers such as Brookfield have been among the main beneficiaries of several processes that stretch back decades: the decline in public ownership of “the basic physical building blocks of global society and economy,” low interest rates that followed the global financial crisis, and an ideological project to present finance as capable of filling the “gap” between public investment and public needs. The irony, Christophers argues, is that asset managers are largely obligated to buy and sell on short timelines, making them among the most ill-suited owners of these long-lived assets.
Christophers argues that we live in an “asset manager society”—one in which financial firms control “our most essential physical systems and frameworks.” He contrasts this concept with Benjamin Braun’s notion of “asset manager capitalism.” 1 Braun’s framework describes the latest regime in the corporate governance of publicly traded corporations: broadly diversified large asset managers such as BlackRock are now among the largest shareholders of every company in most markets—universal owners. Theirs is a low-fee model, and they compensate for low fees with scale and universal ownership. As a result, they exercise a degree of control within firms not through majority ownership or the threat of exit, but through voting power. By contrast, the key players in the asset manager society exercise both outright control—via majority ownership or long-term contract—and exit to generate returns. In this respect, the asset manager society resembles the private equity buyout world. Many of the same firms are active in both realms, and the funds involved, as well as the assets they acquire, are exempt from key public reporting requirements.
As Christophers shows, the line between his asset manager society and Braun’s asset manager capitalism can be blurry. An asset can move between the two spheres and into others. In the example of Invitation Homes, which Blackstone created to acquire single-family homes after the global financial crisis, assets (single-family homes) first moved from the hands of distressed homeowners into the asset manager society. Soon enough, they became part of the asset manager capitalism regime as Invitation Homes was listed on the public markets and Blackstone gradually sold off its controlling stake. Asset managers, other financial services companies, and the largest of pension funds can themselves straddle the line between the two spheres. BlackRock, a major player in asset manager capitalism and among the largest shareholders in most publicly traded firms, also sponsors private funds that invest on a much smaller scale in the asset manager society.
Blackstone, Brookfield, and Macquarie are among the main protagonists in Christophers’ story. They regularly raise funds with billions of dollars in committed capital and gobble up infrastructure of all kinds—energy and water utilities, telecoms, transportation systems, hospitals, and schools—along with housing and farmland. By the author’s estimate, these firms control about $4 trillion of holdings in the asset manager society.
Christophers’ geographic mapping of the capital sources and investments may be the most comprehensive picture of this system that we have to date. Funds are raised primarily from institutional investors—public and corporate pension funds, life insurance companies, endowments, and foundations—as well as wealthy individuals in North America, Europe, and to a lesser extent the Asia-Pacific region. Latin America, Africa, and the Middle East contribute only a few percentage points of total investment, although sovereign wealth funds in the latter region are increasingly prominent. To a certain extent, the map of investments mirrors that of the capital sources, but Christophers carefully highlights regional variation and uneven historical development. Additionally, he brings into focus a “push and pull” dynamic in which public-sector austerity has gone hand in hand with the growth of funded pensions and other institutional capital pools. For example, Australia became the birthplace of infrastructure as an asset class during the 1990s, when the government withdrew from funding public infrastructure and retirement funds were seeking the kind of steady cash flows and inflation protection that infrastructure promised. Macquarie rose to prominence on the back of this development.
Christophers’ core thesis is that asset managers operate on timelines too short to make them responsible stewards of basic infrastructure. Despite the stated desires of institutional investors to pair their “patient capital” with the long-lived assets of the asset manager society, the majority of committed capital flows into closed-end funds with a stated life of ten to twelve years. Investment holding periods—the length of time that a fund owns an asset—are often less than five years. Although the closed-end fund is common to other parts of the private equity world, the horizon mismatch with these long-lived assets is glaring. Take the 2012 agreement between the city of Bayonne, New Jersey and a joint venture that included the asset manager KKR. The two sides agreed that the joint venture would run the municipal waterworks for forty years. However, KKR’s capital came from a closed-end fund raised in 2011, meaning that its exit in 2018 was “preordained.”
Christophers argues persuasively that the funds’ short timelines discourage significant capital expenditures. Faced with the need to unload an asset in a few years, it is a safer bet to cut costs to improve free cash flow. Moreover, closed-end funds are often compared on a performance metric, the internal rate of return (IRR), that creates perverse incentives. The sooner a fund makes a distribution or payment to investors, and the larger that distribution is, the more the IRR rises. As a result, asset managers have every reason to make early distributions at the expense of productive investments. When Macquarie acquired Empark, a car park operator, it did just that, issuing a debt-financed dividend or “recap.”
Beyond the “tragedy of horizon,” these investment vehicles and adjacent structures facilitate tax avoidance. Funds themselves are usually structured as limited partnerships, generally not subject to taxation. Taxes are further limited by operating through real estate investment trusts (REITs) and assuming high levels of debt that offset otherwise taxable income. In another maneuver, firms arrange shareholder loans in which the asset owner also provides debt financing, siphoning off cash flows and reducing taxable income. These loans can also be structured in ways that take advantage of low-tax jurisdictions.
Finally, Christophers refutes industry claims that private investors outperform governments in efficiency and cost effectiveness. Governments have access to low-interest credit, and very often, private contracts include revenue-guarantee clauses that bleed the public sector. In 2008, the city of Chicago signed a seventy-five-year concession agreement with Morgan Stanley Investment Partners to run the city’s metered parking system. The city aimed to move the costs of the operation off its books, but the agreement required it to pay penalties whenever it took a meter offline, ensuring that investors made money even if the system shrank. The terms of the contract transformed the meter system from a revenue source to a budget expense for the city. Christophers draws on urban sociology scholarship to show that this was not just costly but also disrupted other aspects of the city’s planning process, including the rollout of the bus rapid transit system.
Who benefits from these aggressive maneuvers? Certainly not the states or the public that use the infrastructure. Asset managers love to trot out the “teachers, nurses, and firefighters” trope, arguing that public pension funds are limited partners in their funds, and that workers therefore reap the rewards of financialization. In reality, however, these funds distribute upward, reinforcing and even exacerbating economic inequality. Borrowing a convention from the buyout world, asset managers standardly supply just a few percentage points of the committed capital in a fund but receive 20 percent of the profits, allowing for enormous capital gains relative to contributions. This has been described elsewhere as holding a call option while controlling the volatility of the underlying asset. 2 Moreover, as Christophers notes, asset managers charge high steady management fees—the “bread and butter” of the industry.
While Christophers does not outline a plan for dismantling the asset manager society, the threads are there for both practitioners and academics to pull on. Most importantly, the design of our retirement system fuels the growth and political power of asset managers. Public pension funds once operated on pay-as-you-go or “fiscal mutualist” bases in which their ability to pay depended on the permanence and economic health of states and cities. But over the last fifty years, public pensions have become funded systems much like corporate pension plans. Founded on the reality that private firms are much more likely to go bankrupt and may be liquidated, funded pensions rely on massive pools of capital—contributions that pension funds hand to asset managers to invest. 3 Today, many public pension funds take the advice of investment consultants who have an interest in the growth of the asset manager society: some consultants have their own asset management arms, and others have been acquired by asset managers. Some large public pension funds belong to the Global Infrastructure Investor Association, a trade body that argues for the superiority of private ownership. In Christophers’ story, we see the consequences of these entanglements. Public pension contributions travel a circuit: they become committed to private funds that invest in the asset manager society, and they provide asset managers with the political power to win subsidized government contracts that “de-risk” their investments. It is not a stretch to say we are negotiating against ourselves, and it should not be a stretch to imagine returning to a system that cuts that circuit.
