The ability to include private equity investment in US defined contribution plans has long been considered the holy grail for the industry, potentially changing the fundraising model and opening the door to new sources of capital.
Defined benefit plans are slowly disappearing and being replaced by DC plans, which mainly include 401(k) retirement accounts. The 401(k) opportunity is a big one, with about $5 trillion in assets in the US, according to the Investment Company Institute.
Tony James, until recently chief operating officer of Blackstone and now executive vice-chairman, has long been outspoken about the looming retirement crisis in the US and is pushing for change.
“This is going to happen,” he said in February on the firm’s fourth-quarter earnings conference call. “This must happen because there’s no other way for society to afford the aging demographic that is our future. It will happen and assure you we’re going to be working on it. We’re already having some discussions, but things move slowly.”
James’s thoughts echoed those many of the delegates at the 2018 CFOs & COOs Forum in New York in January. There are a lot of challenges remaining, and unless some laws and regulations change, particularly related to Employee Retirement Income Security Act’s fiduciary standards, it may never happen.
“The opportunity is huge, but the hurdles are equally huge,” said one GP at the Forum.
One panellist whose firm has done some work on including private equity in 401(k)s noted that it could address most challenges, including the need for daily valuation and liquidity, but the fiduciary duty “is the biggest hurdle we’re struggling with”.
“We’re still stuck on it.”
The risk is real. In 2015, Intel Corporation was sued by a former employee claiming that retirement plan executives breached their fiduciary duty by over-allocating to alternative investments, including hedge funds and private equity funds, to investment choices in two DC plans.
Although the plaintiff lost the case last year due to the statute of limitations for suing under ERISA, the case sent chills through the industry.
Another panellist noted a change to the accounts might be the way forward. “In countries where we’ve seen DC plans hold assets, they have a different structure and they have fiduciaries,” he said, adding that in Australia, retirement assets are sponsored by superannuation plans rather than by individual companies.
“In the US, each company is its own fiduciary of its own plan. They choose the investment options,” he added. “In other countries where we’ve seen this work, it’s actually been the retirement sponsors that are the fiduciaries. When a sponsor is large enough and has enough of a user base, they can act more like a DB plan.”
Besides changing laws, educating DC plan participants, who select investments in their retirement plan, about private equity will also be needed.