SEC Limits Political Contributions After Pay-to-Play Investment Scandals

U.S. regulators restricted investment advisers from contributing to political campaigns to win pension business in response to abuses in an industry that oversees $2.6 trillion of public retirement funds.

Securities and Exchange Commission members voted 5-0 at a meeting in Washington today to ban executives at private-equity firms and hedge funds from managing pension-fund assets for two years if they give money to elected officials with influence in awarding investment contracts.

“Pay-to-play distorts municipal investment priorities, as well as the process by which managers are selected,” SEC Chairman Mary Schapiro said at the meeting. “The cost of this practice is borne by retired teachers, firefighters and other government employees relying on expected pension benefits.”

The SEC and New York Attorney General Andrew Cuomo have investigated state pension-fund corruption for more than a year. Indictments and civil complaints stemming from the probes depict officials who let political and personal relationships trump merit in deciding who should be entrusted with retirement funds.

Quadrangle Group LLC, the private-equity firm co-founded by Steven Rattner, agreed in April to pay $12 million to resolve allegations it provided kickbacks to win an investment from a New York state retirement fund.

Rattner paid $1.1 million in finder fees to a former political consultant to Alan Hevesi, who served as New York’s comptroller from 2003 to 2006, according to Cuomo. Rattner denied any wrongdoing.

Directed Contributions

The SEC rules would bar hedge-fund and private-equity executives from directing contributions by spouses, lawyers, affiliated companies or political action committees, private groups formed to elect candidates or support legislation.

Donations of $350 or less to politicians an investment adviser is entitled to vote for wouldn’t trigger the two-year ban on managing money. The SEC, which said smaller donations wouldn’t influence the awarding of pension contracts, will also permit donations of $150 to candidates the giver can’t vote for, such as an out of state politician.

The SEC backed away from a proposal made last July that would have imposed an outright ban on investment advisers hiring so-called placement agents.

Placement agents are companies paid by hedge funds and private-equity firms to help gain access to pension money. The proposed ban followed allegations that New York officials arranged for a pension fund to invest $5 billion with money managers who paid political advisers with ties to placement agents.

Registered Firms

The regulations approved today allow hedge funds and private-equity firms to keep using placement agents as long as the firms are registered with the SEC or the Financial Industry Regulatory Authority, the industry-funded brokerage watchdog, and subject to pay-to-play restrictions.

Companies including Credit Suisse AG fought the outright ban, with the Switzerland bank arguing in a September letter to the SEC that a prohibition would eliminate the “critical capital-formation function” that brokerage firms provide as placement agents.

Senate Banking Committee Chairman Christopher Dodd also opposed it in a February letter to the SEC. Retaining placement agents is the only “cost-effective way for smaller funds” to compete with bigger rivals in winning contracts to manage pension-fund money, wrote Dodd, a Connecticut Democrat.

The SEC asked Finra in December whether it could restrict brokerages from engaging in pay-to-play arrangements as an alternative to a ban. Finra Chief Executive Officer Richard Ketchum responded in March the private regulator that oversees 5,000 U.S. brokerages could restrict firms from engaging in “improper pay-to-play practices.”

The restriction on investment advisers using unregistered placement agents won’t take effect for one year to give Finra time to write rules. Andrew Donohue, who heads the SEC division of investment management, said at today’s meeting that the Finra regulations will be “at least as stringent” as his agency’s.

To contact the reporter on this story: Jesse Westbrook in Washington at jwestbrook1@bloomberg.net.

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