Exploring the Impact of Private Assets on 401(k) Returns
Recent studies indicate that, when managed correctly, private equity and private credit can enhance 401(k) plan returns over the long run. However, these possible improvements may not meet the high expectations of participants. Historically, retail investors have found it difficult to access these assets, but with the emergence of new products, accessibility is increasing. In August, an executive order was signed by President Trump aimed at “democratizing” access to alternative assets—like private equity, private credit, and cryptocurrencies—for various defined contribution plans, including 401(k)s. This order calls for a review by the Secretary of Labor on the fiduciary guidelines concerning investments under the Employee Retirement Income Security Act of 1974 (ERISA).
Some experts believe that including private assets could enhance portfolios, yet recent analyses raise caution. For instance, Vanguard’s research, spanning 40 years with skilled managers, suggests that allocating 10% to 20% of target-date funds to private assets could boost retirement assets by 7% to 22%. Additionally, retirement income might increase by 5% to 15% before fees. However, Fiona Greig, head of policy and research at Vanguard, emphasizes that a long-term perspective is crucial due to the larger variability in returns for private assets compared to passive funds. This variability means investors need to be prepared for downturns in performance.
Interestingly, the average holding period for Vanguard-managed target-date funds in 401(k)s is around four years. When people switch jobs, they typically sell one fund and buy into another, often at a lower market level. Greig points out that with private assets, this dynamic is different. “If I sell assets while changing jobs, I can’t be sure if I’ll access the same private assets in my new plan or if I’ll even have that option,” she said.
A separate analysis by Morningstar shows that an allocation to private credit or private equity can potentially enhance sustainable spending in retirement by 1% to 17%, depending on various factors including the investor’s profile and the size of the overall portfolio. They found no evidence suggesting that adding private allocations would harm performance. However, as this is still a relatively new area, the historical data is limited, according to Hal Ratner from Morningstar Investment Management. He notes that the decision to incorporate private markets involves various factors: the nature of the products offered, the participant demographic, and other options available within the plan.
Jared Gross from JPMorgan describes adding private assets as more of a “wish” rather than essential, as traditional 401(k)s can still provide solid returns. He suggests that while alternative assets might broaden opportunities, caution is essential when approaching them. This includes ensuring active management, transparency, and liquidity, as well as confirming that plan sponsors act in participants’ best interests.
JP Morgan has notable experience in this field, providing daily valuation real estate strategies for defined contribution plans for two decades. Gross explains that their approach includes a target-date fund framework with both private and some public real estate assets for liquidity. He notes that this strategy has historically resulted in better risk-adjusted returns compared to methods focusing solely on public markets. “Some of this shows lower volatility, while some stems from enhanced performance,” he adds.
AllianceBernstein also engages in private asset allocations through customized target-date funds, managing around $105 billion globally. Approximately 25% of customers with these funds have made allocations to private assets. Christopher Nikolic, who oversees the glide path strategy, emphasizes the importance of tailoring offerings to different life stages. By considering whether participants are young or nearing retirement, he believes there’s potential to enhance returns through private equity or increase inflation sensitivity with allocations to private real estate and infrastructure. “Using private credit can further diversify equity risk and boost yield, thus enhancing income for retirees,” he concluded.
