Private Markets, Sarbanes-Oxley and the Coming Collapse

“I'd say on Sarbanes ... [it's] probably been the best thing that's happened to our business [as a private-equity firm] and one of the worst things that's happened to America.... I find corporate managers more or less quite defeated by Sarbanes. I think it's taken a lot of the entrepreneurial zeal out of a lot of corporate managers, and as a result of that, when we talk to them about going private, they're really quite excited about it.”

Stephen Schwarzman

Chairman, CEO, and Co-founder

The Blackstone Group LP

to Charlie Rose, May 2006

March 9, 2026 | When people ask us how the world of private equity and credit grew into the trillions of dollars, the short answer is the Sarbanes-Oxley legislation of a quarter century ago. Combined with the equally prescriptive Basel Accord a decade later, the Sarbanes-Oxley Act of 2002 attempted to legislatively prohibit securities fraud. When you squeeze the proverbial investment sausage via excessive regulation, the piquant filling simply squirts out elsewhere. As we all know, fraud is only possible in a free society. 

SOX, as the Sarbanes-Oxley law is known, drove the world of finance out of the light of public ownership and markets, creating a dank private cesspool of conflict and chicanery that has done enormous damage to the US economy. Combined with later acts of legislative hubris such as the 2010 Dodd-Frank law, SOX forced the investment bankers to take refuge behind opaque private markets and non-disclosure agreements in order to earn their expected 20% annual fees. Whole firms arose to pursue the noble goal of adding value in private schemes that were always inferior to public investments. 

Today the world of private equity and credit is a rancid pool of conflicts and illegality that cannot possibly be seen as superior to public markets. Private equity executives even enjoy special tax provisions from Congress for "carried interest" to reward them for their efforts in soaking investors. Advocates of private schemes like crypto tokens, which are explicitly not considered securities, buy and sell Members of Congress like chattel.

While PE firms are subject to SEC oversight, including the Investment Advisers Act of 1940, they are exempt from many of the disclosure and compliance requirements that protect public market investors. Our friend Victor Hong describes the hideous mess created for investors in a post last week on LinkedIn: 

“Institutions which are diversified across many Private Equity funds AND Private Credit funds now find that portfolio companies in the former often are identical to (or affiliated with) borrowers in the latter.  So, as Fund LP’s, they own entirely BOTH the equity and debt of the same distressed company.  In that case, why are the Private Equity and Private Credit fund managers charging any base or performance fees to the LP’s, and for what value-added services (like a chauffeur charging for my bus ride)?  Worse yet, in cases where the portfolio company has defaulted on its debt, the Private Equity and Private Credit fund managers have hired their own SEPARATE legal teams to battle out OPPOSING restructuring/bankruptcy plans.  Peter fighting Paul is senseless when Peter IS Paul.  This amounts to a Zero-Sum Game for the LP’s which own both its debt and equity.  Peter cannot beat Paul; or vice versa. After ensuing (intended pun) extraordinary fees paid to both the Private Equity and Private Credit fund managers plus their respective lawyers, the LP’s are contractually forced to play a Negative-Sum Game. Cutting a pizza into seventeen even slices, rather than eight, leaves only less for eating but more crumbs for COCKROACHES.”

Chuck Bowsher & Sarbanes Oxley

One of the key fathers of the Sarbanes-Oxley legislation was our old friend Charles A. Bowsher, the former partner of Arthur Andersen who became a giant figure in the world of accounting and public policy in the 1980s. Bowsher was a close friend and contemporary of Richard J. Whalen, who at the time was the sous chef in the Reagan kitchen cabinet.

Appointed in 1981 by President Ronald Reagan to a fifteen-year term as Comptroller General of the United States, Bowsher aggressively pursued the mandate of the GAO and increased the visibility and effectiveness for the agency.  And he would later use the Enron crisis as a vehicle for imposing tough new restrictions on public companies and markets.

The catalyst for SOX was the collapse of Arthur Andersen in 2002 following the firm’s conviction for obstruction of justice regarding the destruction of documents related to the Enron scandal. The firm was found guilty on June 15, 2002, and subsequently surrendered its licenses to practice as a CPA firm, effectively ceasing operations by August 2002. 

In January of that fateful year, Bowsher and four other members of the Public Oversight Board (POB) had resigned in protest of an SEC proposal by Chairman Harvey Pitt to create a new oversight body for accounting firms in the wake of the massive Enron and WorldCom frauds. Bowsher stated that the SEC proposal sponsored by Pitt was a "sham" designed to give the auditing industry more power to discipline itself, rather than submitting to true independent scrutiny. Pitt himself left the SEC in November 2002.

By publicly resigning from the POB, Bowsher made the existing self-regulatory system untenable, forcing Congress to adopt stricter, independent oversight mechanisms. The initial sponsors of the Sarbanes-Oxley Act of 2002 were Senator Paul Sarbanes (D-MD) and Representative Michael G. Oxley (R-OH). Title I of the Sarbanes-Oxley Act created the Public Company Accounting Oversight Board or “PCAOB.” Of course, the securities industry continued under a self-regulation model. 

Bowsher used the painful experience of Enron and the collapse of Arthur Andersen to force Congress to adopt tough new rules for public companies.  He provided crucial expert testimony to the Senate Banking, Housing and Urban Affairs Committee regarding the need for independent oversight of the accounting profession in the wake of the Enron (2001) and WorldCom (2002) debacles. The collapse of Enron and WorldCom cost investors billions of dollars and revealed widespread, systemic corruption and inadequate auditing.

The examination function of the PCAOB was initially headed by a former Marine helicopter pilot and SEC veteran, George Henry Diacont, who worked to instill a “regulatory attitude” in the former auditors who became PCAOB inspectors. The new PCAOB imposed a high level of scrutiny on public accounting firms and public companies that, over the intervening 24 years, encouraged the expansion of the private equity and credit markets. 

When the US economy cratered in 2008, half of the residential mortgage market was private and the bid for private loans quickly fell to zero. Bowsher resigned as chairman of the Federal Home Loan Bank system's Office of Finance in 2009 because he was uncomfortable with the way banks were valuing their mortgage securities, according to the Wall Street Journal. Bowsher said, "I decided I didn't have confidence in the financial statements," confirming remarks he made previously to Bloomberg News.

In the intervening years, banks have left the residential mortgage market due to punitive Basel III risk weights on residential housing assets adopted in 2012. Most housing loans today are fully documented and carry agency or government guarantees. Nonbank firms now dominate much of the world of secured housing finance, but a growing share of equity finance is also controlled by nonbanks and is now deliberately based upon private rather than public markets. And in these ersatz private "markets," investors have no rights.

Private Markets Predominate

The private equity market has expanded dramatically since 2008, with global Assets Under Management (AUM) growing from approximately $2 trillion in 2008 to over $13.7 trillion by 2023, reports S&P Global. Private equity increased nearly 600%, driven by massive capital inflows into private markets, which now often exceed public market fundraising. But the private markets of today are little different than the rigged equity markets which prevailed prior to the Great Depression.

Over the past century, markets have come full circle back to the opaque and deceptive financial offerings that proliferated prior to the 1929 crash and the passage of financial reform legislation in the 1930s. Examples of financial fraud in the 1920s included Ponzi schemes, stock market manipulation, investment trusts, fictitious oil company investments, sales of fractional shares of real estate in FL, and fraudulent public utility holding companies. 

In the late 1920s, Goldman Sachs (GS) publicly launched several entirely opaque closed-end investment trusts, most notably the Goldman Sachs Trading Corporation launched in December 1928 under Goldman partner Waddill Catchings. Goldman also listed the Shenandoah Corporation and the Blue Ridge Corporation in 1929, two highly leveraged closed-end vehicles that failed spectacularly following the great market crash.

In his 1955 book The Great Crash, 1929, economist John Kenneth Galbraith famously used the Goldman Sachs Trading Corporation as the ultimate example of the speculative madness and "financial insanity" that defined the period leading up to the 1929 market crash. Catchings' aggressive actions nearly caused the failure of Goldman Sachs and he was eventually forced to leave the firm in disgrace.

Echoing the claims today made about the superiority of private markets, Galbraith highlighted Catchings as a prominent businessman and author (co-author of Profits and Business Without a Buyer) who argued that the economy had entered a "new era" where traditional economic rules did not apply. If this sounds like the public statements of Marc Rowan, CEO of Apollo (APO), you are right.

Galbraith portrayed Catchings as a leading example of the dangerous overconfidence and flawed economic thinking that fueled the 1929 stock market bubble. The same sort of dangerous thinking is visible in the leaders of major private equity and credit sponsors such as Apollo, Black Rock (BLK) and Ares Management (ARES).

Back to the Future

The private equity and credit markets of the 2020s are much the same thing as the financial markets a century ago, but are protected by private contracts and non-disclosure agreements. Investors in the 1920s were targeted by scams promising high returns, often fueled by illegal "boiler room" tactics and mail fraud. Today private sponsors openly offer private credit strategies to retail investors with no fear of legal or regulatory sanction.

Purveyors of private credit investments and crypto token schemes play the same role as the bad actors of the 1920s, but with no interference from the SEC and other agencies. Private investment schemes are often deceptive, especially in performance reporting, and they don't consistently beat simple index funds after fees, liquidity and other risks are considered.

Not only are the private markets now big enough to threaten the stability of public markets, but the messy action of the past week in private credit suggests that a major correction is inevitable. The fact that Black Rock had to suspend redemptions on a fund takes us back to June 2007, when Bear Stearns allowed two unlisted funds invested in private-label mortgage securities to fail. The resulting contagion eventually led to the sale of Bear Stearns to JPMorgan (JPM) in March 2008 at a 90% discount to the firm’s price the day earlier.

By raising the cost of public ownership, SOX made "going private" a more attractive option, driving a surge in takeovers by private equity firms,” wrote Robert P. Bartlett (2009) of the University of Georgia, and noted that the cost of SOX disproportionately burdened smaller firms. Bartlett predicted correctly “that going-private transactions should migrate away from high-yield debt financing after 2002 given the costs of SOX compliance and the abundance of other forms of "SOX-free" debt financing.”

Needless to say, we have told readers of our Premium Service that we are not taking on new exposures in banks or other financials at the present time. Like the sage of Omaha, Warren Buffett at Berkshire Hathaway (BRK), we’ve been raising cash and also allocating more assets to income producing assets, and gold and silver exposures. No crypto please.

As we told our friend Daniela Cambone last week, the collapse of private equity and credit could be one of the biggest busts we've ever seen on Wall Street. Why? Because the world of private equity and credit is entirely illiquid, something that retail and even institutional investors cannot tolerate in times of market stress. Apollo or Ares or Blackrock can suspend redemptions on a fund, but you cannot stop a run on reputation.

In our next issue of The Institutional Risk Analyst, we'll update our WGA Precious Metals Top 25 rankings.

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