PE industry hopeful about 401(k)s in second Trump administration

401(k) plans are viewed as the final – and potentially very lucrative – frontier for private equity, and the industry appears poised to get as far into it during the coming Trump administration as possible.

In recent interviews, private-equity executives and lobbyists told the Financial Times that they “will hit the ground running” when former President Donald Trump again assumes office on Jan. 20. The industry made some headway during Trump’s first administration, but it will be a struggle for it to get much further anytime soon.

Most 401(k) plans have no allocation whatsoever to private equity – only a small percentage include alternatives of any kind. And even among the biggest 401(k)s, less than 1 percent include private equity as a component of custom target-date strategies.

The Department of Labor indicated in 2020 that such use was acceptable under some conditions for asset-allocation strategies, communicating that to one company, Pantheon Ventures, in a letter answering a question from the firm. During the Biden administration, the DOL clarified that it did not endorse the use of private equity within most 401(k)s, especially as a standalone investment choice for workers.

“There are lot of ERISA issues, and they need to be carefully addressed by any plan fiduciary that wants to make private equity available,” said Carol Buckmann, founder and partner in the ERISA and employee benefits practice at law firm Cohen & Buckmann. For example, PE investments can be hard to value, and they are less liquid than publicly traded securities held with traditional mutual funds. There is also a participant education issue, as some 401(k) investors could try to allocate a high percentage of assets to PE through self-directed brokerage accounts, if that became an option, Buckmann said. On top of that, PE investments tend to have high fees associated with them, she said.

“It does require a lot of expertise to evaluate these investments, and I don’t think your average plan participant is really in a position to do that,” she said.

Even as PE firms have long had an eye on defined-contribution plans, given the vast size of that potential market, it’s an area that is incredibly slow to change. It’s heavily regulated, and plan sponsors are widely averse to any changes with a hint of legal risk or potentially damaging outcomes for their participants.

Still, some academics have made the case for PE within DC plans. An allocation of 10 percent to illiquid assets, including 5 percent to PE and 5 percent of real estate, taking the place of some allocations to US large cap and core bond funds, could lead to better financial outcomes 82 percent of the time, according to a paper in 2023 from Georgetown University’s Center for Retirement Initiatives.

Similarly, the New School’s Teresa Ghilarducci and Blackstone’s then-president Tony James wrote a paper, and later a book, describing new types of retirement accounts that unlike 401(k)s and IRAs may focus on longer-term investments such as hedge funds, private equity, and real estate, much like pension funds and endowments.

Read more: Comparing the 401(k) vs. pension plan 

Conversely, a paper last year from Morningstar found that pension funds vary significantly in their uses of PE and that such use didn’t appear to correlate with financial performance.

Currently, there doesn’t appear to be much demand for PE by plan participants, Buckmann said.

Even so, PE could be useful as a component of asset-allocation vehicles like target-date funds and collective investment trusts, given its potential for higher returns, she said.

To expand meaningfully there, an act of Congress would have the most utility, she said. And that is a possibility – at least a couple of bills were proposed in the past Congress that would have changed the Employee Retirement Income Security Act to make alternative investments easier to add to 401(k) plan lineups. A Republican-controlled Congress and a Republican president make passing such initiatives more likely.

“A statutory change would be the best thing” to accomplish that, Buckmann said.