President Donald Trump ‘s new executive order paves the way to bring alternative assets into 401(k)s, but what that will eventually look like — and how complicated it may be — remains to be seen. The order, signed by the president on Thursday , directs the Secretary of Labor to reexamine fiduciary guidance on alternative investments — such as private equity, private credit and cryptocurrencies — in 401(k) and other defined-contribution plans. Those plans are governed by the Employee Retirement Income Security Act of 1974, or ERISA. Adding alternative assets can be a complex endeavor for 401(k) plan sponsors, thanks to issues including liquidity, transparency and fees. However, investors will have some time before the offerings become available. The employer-sponsored retirement plans move slowly, even when things aren’t complicated, said Jason Kephart, senior principal for multi-asset strategy ratings at Morningstar. “We’re still very ‘day one’ for plan sponsors to get comfortable, to get the approval. It’s going to take many quarters,” he said. “There’s still a very big question if plan sponsors will actually get comfortable enough to make these an option.” Some $12.2 trillion was held in defined contributions plans, which include 401(k)s and 403(b) plans, as of the end of the first quarter, according to the Investment Company Institute . About $8.7 trillion of that is in 401(k)s. One size doesn’t always fit Bonnie Treichel, an attorney who specializes in ERISA, believes it is inevitable that assets such as private equity, private credit, hedge funds, real estate and cryptocurrencies are coming to the defined contribution market. The onus is on the plan fiduciaries, both financial advisors and the plan sponsors, to know how to vet the options and make them available to participants, she said. They also aren’t obligated to offer the investments at all, she noted. “The plan sponsors’ job is to offer an investment lineup that is in the best interest of the plan and its participants, and that meets the needs of those participants,” said Treichel, founder of Endeavor Retirement. “It’s not a one-size-fits all when it comes to retirement plans.” Treichel doesn’t see alternative assets becoming available as a standalone investment option in a 401(k), at least just yet. “They’re probably going to be as part of a managed account. They’re going to be as part of a target date fund,” she said. “It’s not going to be the participant can go put 20% of their total plan assets into a hedge fund. That hedge fund is going to be within a target date fund, so a participant is not necessarily choosing how much they allocate to a hedge fund or private credit.” Part of the whole Prime Capital Financial’s Jania Stout, president of the firm’s retirement and wellness businesses, also anticipates the options are likely to be inside a target date fund, with a small percentage allocated to private markets, or managed accounts. The latter would have someone managing the pool of assets and having fiduciary oversight of the assets, she noted. “I believe plan sponsors can feel a lot more comfortable doing it that way, than just having it as another option stand alone in their retirement plan,” she said. “I don’t think we’re there yet.” Morningstar’s Kephart believes that first offering the investments in managed accounts, which investors often have to opt into, will make plan sponsors more comfortable, he said. “I think the product development for the 401(k) plan, it’s going to happen in collective investment trusts,” he said. Collective investment trusts are pooled investment vehicles available to individual investors only through retirement plans. They will likely have to use cash, perhaps upwards of 20%, to manage the illiquidity of private assets, he said. “That’s also going to water down your private market exposure,” he said. “It brings the question of — at the end of the day, is it worth it if you have to take all these extra steps to make it fit?” Higher fees Adding exposure to alternative assets could also cost you more money. Fees are almost always higher on private assets, for instance, and they are not always clear. “A lot of expense ratios do not have to include the expected incentive fee expense,” Kephart pointed out. “What we’ve seen in private market funds is the incentive fee expense is usually at least as high as the management fee, if not higher.” For instance, a lot of index-based target-date funds have expense ratios of 0.10% or lower, he said. Private market funds start at around a 1% management fee, plus the incentive fee, he added. If a plan ultimately offers some form of alternative asset allocation and investors aren’t interested, they can talk to the advisors associated with the plan about other investment options, Treichel said. Typically plan participants can choose between something like a target -date fund, passive strategies, active options and perhaps a brokerage window, she said. Stout agrees there will always be a choice. “Most prudent plan sponsors allow people to opt out of it,” she said. “The question will be — is it going to be an opt in or an opt out? And that’s what committees have to decide when they’re evaluating this at their fiduciary committee meetings.” Encouraging guardrails Certified financial planner Chuck Failla, founder of Sovereign Financial Group, thinks 401(k)s should have some type of guardrails in place to ensure those investing in private markets are accredited investors, which means they have a net worth of at least $1 million. “If you don’t have a $1 million liquid, you should probably stay away from alts until you have some more liquidity backed up,” said Failla, who offers private market access to his mass affluent clients through a fund. Investors should also consider how the assets are ultimately integrated. For instance, if plan sponsors try to limit the risks that inherently come with investing in the space, it could ultimately affect the investments’ returns, said Tony Roth, chief investment officer for Wilmington Trust Investment Advisors. In addition, trying to manage the liquidity issue by packing private assets in something like an interval fund, which provides limited liquidity, may also restrict returns, he added. “One of the reasons that private market’ return is so much better is because you get compensated by giving your money away for an extended period of time where you can’t get it back,” Roth explained. That said, alternative assets could help provide diversification that is missing from the market these days, he said. The major indexes are tilted toward larger-cap companies and many companies are staying private for longer — dwindling the pool of small- and mid-cap companies, he added. “There’s a lot more opportunity for alpha or outsized performance in private markets,” Roth said. “You have to end up trusting the right people to make those investments for you, because it can go in the wrong direction as well.”
