5 Questions About Private Markets and Your 401(k)

As private investments become more accessible through mutual and exchange-traded funds, chatter is building about bringing them into 401(k) plans and similar retirement plans. The most recent endorsement comes from BlackRock chief executive Larry Fink, who extolled private investments in his widely watched letter to investors.

One reason is their diversifying properties during troubled times. “Private assets like real estate and infrastructure can lift returns and protect investors during market downturns,” Fink writes. Allowing investors to access previously restricted private investments can help solve the retirement crisis, which he blames on income inequality. “Capitalism did work—just for too few people,” he says. He believes private investments are part of “democratizing” investing. (Some critics have blamed private equity for widening income inequality.)

Fink attracts outsized interest because he leads the world’s largest asset manager. He observes that assets like data centers, ports, power grids, and fast-growing companies are locked in the private markets, and that infrastructure is instrumental to driving growth. He writes that today, “we’re standing at the edge of an opportunity so vast it’s almost hard to grasp.” (BlackRock controls a wide range of private investment assets, and recently led a deal to buy Panama Canal ports that was hailed by President Donald Trump.) Fink believes the portfolio of the future might include 20% in assets like real estate, infrastructure, and private credit.

Fink isn’t alone. Mighty Vanguard also teamed up with Wellington Management and Blackstone to create investments that integrate public and private markets as well as active and index strategies. Vanguard has offered such options to accredited investors before, but this new plan “seeks to broaden access,” according to the press release.

Why Add Private Investments to 401(k) Plans?

The number of public companies is dwindling. BlackRock notes that 81% of US companies with more than $100 million in revenue are privately held. In the EU, the percentage is higher. The share of profits from public companies is shrinking. On the face of it, private equities perform better than public ones. Since early 1999, the PitchBook PE All US Index has compounded returns by about 13.4% per year, surpassing the Morningstar US Market Index by about 5 percentage points per year. Fink also highlights inflation protection. Infrastructure generates revenues from tolls and utility payments, which rise with inflation. Still, the largest share of private investment is in private equity.

Alternative investments have found their way into mass market portfolios for years, such as real estate investment trusts, MLPs, interval funds, liquid alts. (Here’s a primer on alternative mutual fund investments.) Some financial advisors pool their clients’ assets to meet minimums at private equity firms. Asset managers and private equity providers see a gusher of cash ahead. Says Joshua Lichtenstein, who heads the ERISA fiduciary practice at law firm Ropes & Gray: “We’ve never seen as much interest from clients as we have in this past year.”

Business Week reports that asset and private equity managers are pushing the SEC to raise limits on private equity in assets like target-date funds that are commonly used in retirement plans. Less than 10.0% of plans offer any alternative investments, and 2.4% make private equity available. According to the same report, by 2032, individuals’ investments could make up 22% of private equity assets, up from about 16% in 2022.

Why Aren’t Private Investments Already in 401(k) Plans?

Private investments are widely used by defined-benefit plans, wherein a company guarantees its employees a pension and uses professional management. Nothing is stopping 401(k) plan sponsors from including them. In 2020, the first Trump administration said a 401(k) plan sponsor wouldn’t be violating its fiduciary duty if it included private investments.

But there are cons. Private investments are illiquid, hard to value, complicated, and have long lockup periods. That’s a big reason that direct investments in private equity, for example, typically require a minimum investment of at least $1 million, and an investor would need closer to $20 million to create a diversified private equity portfolio. This effectively limits private equity exposure to an elite group of ultra-wealthy individuals or family offices, writes Morningstar’s Amy Arnott.

There’s a wide spectrum of performance. They’re expensive, and high fees are anathema to 401(k) plan sponsors. In a 401(k), there are no guarantees; an employee funds most of the plan and chooses from a list of offerings. A plan sponsor is typically gunshy not just about high fees, but also because there’s little history of private assets in 401(k) plans and a reasonable risk of being targeted by active plaintiffs’ lawyers. (In fact, the Biden administration cautioned that smaller and individual plans weren’t good candidates to evaluate the use of private equity.)

The lockup period also poses logistical challenges. “How does that work if you have people changing jobs every two to five years, potentially moving money from one 401(k) to the next?” asks Morningstar policy research analyst Lia Mitchell. Even if they’re held in a target-date fund, “you still have to manage the liquidity challenges.”

Since nothing is stopping plan sponsors from adding private investments, for first movers, “it’s going to be a game of chicken,” says senior PitchBook strategist Hilary Wiek. “If you’re the first, you might get sued. If you’re the 900th plan, you’re going to go along.”

How Would Private Investments in a 401(k) Work?

Many mutual funds already own private investments, and can own up to 15% of assets in illiquid companies. For example, it’s been common in recent years for mutual funds to own stakes in pre-IPO startups. That can be nice. For example, Fidelity Contrafund FCNTX partly credits its outperformance last year to buying a small stake in Reddit RDDT before the company went public in March 2024. Of course, it’s less nice when funds have to cut valuation estimates for these companies.

Some funds also focus on shares of private equity providers, and Arnott provides a list of them. But the list of funds that include private equity and other assets is limited. “Very few products have been created for this channel, but there is little doubt that asset managers are highly motivated to find a model that will work for this source of capital where assets are increasing with employee and employer contributions every paycheck,” writes Wiek.

One big hurdle is liquidity. Consider SPDR SSGA IG Public & Private Credit ETF PRIV, a new private credit fund. ETFs “must manage daily flows, creating a potential mismatch with private credit, which is generally slow to trade,” writes Morningstar fixed-income analyst Brian Moriarty. The fund tries to solve this problem through an arrangement with alternative asset manager Apollo Global. Apollo must buy back up to 25% of the fund’s private credit assets in a day, and 50% in a week, if asked by SSGA. That may not be enough. Moriarty says it would take seven to eight days to reduce the fund’s private credit allocation by about 20 percentage points if SSGA only sold back to Apollo.

The holy grail is a share of target-date funds, which are frequent default options in retirement plans and become more conservative as a person approaches retirement.

Private Investment Returns Vary

On the face of it, the numbers look good. Fink says pensions typically outperform 401(k) plans by about 0.5% a year, partly because of private assets. Yet an investor’s experience may vastly differ from those numbers, depending on when they get into the fund, whether the fund is in cash at that time, and exiting positions. Much also depends on the skill, or luck, of the committee that chooses the managers for a private equity portion of a target-date fund.

The experiences of defined-benefit plans that already own private equity have been mixed, according to a study by Morningstar policy analysts Mitchell and Jasmin Sethi. They looked at the 20 largest pension plans between 2009 and 2020. Selection of private equity funds varied among plans. There was no consensus as to how much plans should allocate to private equity. One bounced between 0.3% and 1.7%, another between zero and 24.8%. Only smaller pension plans (under $20 billion in assets) had allocations to private equity above 20%.

“They’re basically matching the market. Sometimes they pick good funds, sometimes not-so-good funds,” says Mitchell in an interview. That “accentuat[es] the complexity and divergence in decision-making among pension plans and indicat[es] that pension plan managers did not demonstrate special skill in selecting PE funds,” according to the report. “As a group, the pension plans in our dataset underperformed the theoretical index of all US PE,” it says. Depending on the period in question, some plans may have done just as well investing in traditional equities.

Mitchell and Sethi say a broad private equity index fund could help here. There isn’t one yet, though there are private equity indexes. Morningstar has a few specialized indexes focusing on unicorns.

A Cautionary Take for Private Market Boosters

Investors anticipating the widespread adoption of private investments in retirement plans anytime soon could be disappointed. Consider sustainable and ESG funds, which had some years of popularity before Russia invaded Ukraine in 2022 and certain Republican-controlled states began targeting sustainable investing.

Like private markets today, sustainable funds were once supposed to drive investment flows and assure the future of an array of asset managers, including BlackRock. But plan sponsors balked at including sustainable funds, partly because of flip-flopping guidance from the Labor Department. Today, fewer than 15% of 401(k) plans offer ESG funds in their investment lineups, according to research by Jane Danyu Zhang, assistant professor of finance at the University of Oregon Lundquist College of Business.

To be sure, private equity may be an easier lift, especially because it doesn’t straddle the confusing boundary between values and investing. Private equity is “very clearly return-seeking” and squarely within the DOL guidance, according to Lichtenstein.

Still, Wiek says, “A lot of the same risk-averse 401(k) committees aren’t going to do anything that seems out of the ordinary. It’s going to be a real hurdle.”