Adding private debt, listed private equity and listed infrastructure investments to a defined contribution retirement plan could help liquidity requirements, according to a study published on Monday by Partners Group.
There’s value to including private market investments in a DC plan, the study argues. According to Partners’ study, Adding private markets to DC pension plan portfolios, the average allocation to private equity investments among DC plans was only 2 percent compared with 17 percent in defined benefit plans, while there are clear benefits to including private markets in a long-term investment portfolio.
There are some challenges that private equity managers need to overcome to create offerings that are suitable for DC plans.
One hurdle relates to the fact that DC plans need to be able to provide a certain level of liquidity, while private equity is more of a long-term and illiquid asset class.
“In order to meet DC plan liquidity requirements, solutions such as investing in asset classes with a greater liquidity profile, like private debt, listed private equity and listed infrastructure, alongside traditional illiquid private market investments, must be explored,” Partners Group wrote in its study.
“The challenge, then, is to achieve the right balance in asset allocation between standard private market investments and these more liquid private markets assets.”
Another challenge in adding private market investments to DC plans is the need for DC plans to be able to value the investments on a daily basis, while private equity funds typically provide quarterly valuations.
To fulfill this requirement, Partners Group is using a bottom-up valuation framework that has different requirements for quarterly, monthly and daily valuations.
The different elements considered in the daily valuation process that are used to adjust the latest monthly valuation include interest accruals, fund revaluations, listed companies, foreign exchange and extraordinary events.
As far as the higher cost of investing in private equity compared to other asset classes, Partners considers that private market firms need to adapt to fulfill certain DC pension requirements, such as caps on total expense ratios.
These caps make fund of funds structures involving multiple layers of management and performance fees incompatible with regulations and operational market standards.
“DC plans should aim to blend a private market allocation with passive investment content to find the optimal risk/return outcome at a total plan level,” Partners Group wrote.
In the past two years, Partners Group launched three private market offerings to the DC markets in the US, UK and Australia.
One of its competitors, Pantheon, is also tackling the market and released a study last week that found that a pension saver could be missing out on nearly $180,000 by not including private equity in a retirement plans.