Story of the Year: Private equity makes headway with the retail holy grail

In June, the US Department of Labor decided that defined contribution pension plans, which hold more than $7.5 trillion in assets, could incorporate certain private equity products without violating the law. This was the green light many firms had been waiting for.

The immediate beneficiaries were Partners Group and Pantheon, which have spent years building DC-compatible private equity products that offer the regular liquidity and daily reporting of a mutual fund. Others dusted off old plans or formulated new ones, with EQT chief executive Christian Sinding telling investors the firm was “figuring out exactly which products… would fit this type of investor over the longer term”.

Has there been a dramatic spike in interest from DC pension holders or an influx of capital into the segment? Not yet.

As Private Equity International reported in October, some industry participants believed a ‘Blue wave’ in the US elections, whereby the Democrats would take the presidency and the Senate, could result in the DOL’s guidance being repealed. That didn’t happen. Even with a benign political environment, however, it is likely to be more of a marathon than a sprint.

The number of lawsuits targeting 401(k) sponsors – over excessive fees and over self-dealing leading to inappropriate investment options – has risen in recent years, PEI noted in July. It would be surprising if the private equity industry didn’t face some blowback.

Administrators of defined benefit pensions are used to investing in alternatives; others will need to be convinced. The DoL’s guidance gave hesitant firms permission to begin the long process of deliberating with clients, working through what is deliverable, and addressing any regulatory and administrative barriers that stand in the way.

“If I had to predict the future, I’m optimistic our firm and our competitors will be successful in gaining a first true DC client in 2021,” Douglas Keller, head of private wealth and defined contribution at Pantheon, told PEI. “Beyond that, it’s hard to tell. The interesting evolution will be how quickly the second, third, fourth and fifth DC clients come online.”

It’s not just the pension funds that face a learning curve. Private equity professionals may have to get used to the higher level of transparency and scrutiny that comes with managing retail money. Allowing DC plans to invest in private funds through target-date, target-risk or balanced funds – the limited form of investment approved by the DoL –­ does not translate to additional regulatory disclosure requirements. Steps beyond that probably will.

“The most likely way for all but the very biggest firms will be to work with an intermediary, and that intermediary will handle and absorb the complexity of dealing with a retail investor or 401(k) plan,” said Justin Miller, managing partner at Bain & Company. “But you have to pay for that.”