The 401(k), a standard white-collar work benefit for the last four decades, is about to undergo a massive change.
Earlier this month, President Donald Trump issued an executive order that encourages employer retirement funds to invest a portion of employee contributions in alternative assets like hedge funds, real estate, crypto, and, notably, private equity.
What is private equity, exactly? It’s basically when finance firms swoop in and buy companies or assets — from nursing homes to soccer clubs — and allow others to invest for a piece of the action. The industry is often criticized for extracting profit while running companies into the ground and creating an opaque, less-regulated alternative to public markets.
Nonetheless, it’s grown into a $5.3T behemoth.
The Hustle
The order is a victory for private equity leaders like Blackstone CEO Stephen Schwarzman, who’s wanted access to average investors’ retirement accounts for years. “In life you have to have a dream,” he told analysts back in 2017, “and one of the dreams is our desire — and the market’s need — to have more access at retail to alternative asset products.”
Many Americans will be excited, too. Republican polling firm Fabrizio Ward found that 57% of 800 respondents across all political parties favored access to private equity investments in 401(k) plans.
But will private equity investments really be a dream for American workers, or just another way for financiers to fatten their pockets?
To help explain how all of this would work, let’s introduce you to Average Jane, a young worker who makes $60k per year and is aiming to retire by 2065.
The Hustle
Average Jane contributes money to a 401(k), the most common form of employer-sponsored retirement plan.
First developed in the late 1970s as an alternative to pensions, which require employers to guarantee retirement payments, 401(k) accounts were designed to be like piggy banks. Employees can opt to have a little pre-tax money taken out of each paycheck and deposited into an investment account.
Today, these plans are used by ~50m Americans, and collectively hold a total of $8.7T (with another ~$3.5T held in similar plans such as the 403(b), which also fall under Trump’s executive order).
The Hustle
Employers typically offer several investment options for 401(k) plans, with a default option for workers who don’t make a selection. Like many people, Average Jane’s 401k contributions go into something called a target date fund (TDF).
As of 2018, 56% of 401(k) participants had a TDF, often referred to as a “set it and forget it” retirement plan. Workers contribute money to a single fund while a professional management team handles the investing. The managers curate a mixture of funds with stocks and bonds inside the single large fund, shifting the balance to be more conservative as workers get closer to their target retirement year.
The Hustle
The guidance from Trump could persuade 401(k) sponsors — usually employers — to offer TDFs that include private equity funds (PE funds) as part of a mixture of assets.
So, what’s a PE fund?
They are legally separate funds controlled by private equity firms — like Blackstone, Apollo, and KKR — used to purchase ownership stakes in companies, ranging from distressed public corporations to startups to mom-and-pop operations. These acquisitions are called portfolio companies.
Some private equity funds also act as a fund of funds, meaning they invest in other PE funds that have stakes in companies.
The Hustle
As of 2021, there were more than 18k PE funds in the US, according to the Securities and Exchange Commission — up ~60% from just 5 years prior.
To make a purchase, a PE fund uses some of its own firm’s money and bank loans. But it also needs money from outside investors, like:
Ultrarich people
University endowments
Insurance companies
Pension plans
These investors typically receive dividends and get a cut when a PE fund’s portfolio company goes public or gets sold, a process that often takes a few years.
And people with 401(k) accounts, like Average Jane, could soon be investors, too.
The Hustle
Rob Sichel, a partner at K&L Gates and a member of its investment management practice group, says some private equity funds could be formed for the explicit purpose of fitting into a 401(k) account. Existing funds could also be included.
In either case, he says to think of them as “a sleeve” of a target date fund, one that would likely comprise no more than ~5%-10% of the overall fund, with the rest invested in public assets.
The Hustle
Proponents say that private equity funds will:
Grant Jane access to a greater diversity of investment opportunities, particularly given that the number of US publicly-traded companies has declined from ~8k to ~4k since the 1990s.
Give Jane similar opportunities to rich people and institutional investors.
Deliver Jane better returns than she’d achieve with solely public assets, especially during down markets.
But opponents point to several drawbacks for average investors like Jane:
A lack of liquidity: PE funds take years to generate returns (if at all), making it difficult for workers to sell or employers to switch 401(k) plan offerings.
A lack of transparency: PE funds and their portfolio companies aren’t valued on a public exchange, like stocks and public investment funds.
High fees: PE funds often charge 2% management fees and 20% performance fees.
The Hustle
Those fees plus the lack of transparency around valuation create a potential conflict of interest, says Fred Reish, an attorney with Faegre Drinker Biddle & Reath who specializes in retirement plan products and management.
“The manager of a private fund gets a percent of assets as a fee and then values the assets. So the higher the valuation, the higher the fee…Who’s overseeing that potential conflict of interest?”
So, what does all of this mean for Jane’s 401(k) investments?
There’s some evidence that Jane’s 401(k) would be healthier with private equity. Per Forbes, the Cambridge Associates US Private Equity Index (a benchmark for PE funds) had an average annual return of 13.92% over the last 20 years compared to 10.13% for Vanguard’s Total Stock Market Index Fund.
The Hustle
And an Urban Institute simulation of 16 different scenarios estimating lifetime savings found a retirement account with PE funds would outpace an average account with only stocks and bonds in all but two scenarios, earning ~6.6% more over a lifetime.
But private equity funds are highly variable. A recent study from Johns Hopkins University finance professor and private equity critic Jeffrey Hooke that tracked 19 large private equity firms found that fewer than half of their PE funds outperformed the stock market from 2007 to 2020. That echoes otherscholarlystudies, which indicate PE investments and stock market benchmarks have featured roughly the samereturns.
The Boston College Center for Retirement Research looked at public pension plans with a portion of their investments in alternative assets like PE funds. It found that those plans underperformed a passive retirement fund with a 60/40 stock-bond component by an annual adjusted average of -.03% per year from 2000 through 2023.
Using that data, here’s how Average Jane would fare over the next 40 years if she’d invested 10% of her $60k annual salary in a passive plan with a 60-40 stock/bond composition vs. the plan with alternative assets.
The Hustle
That’s barely a difference for Jane. In fact, she’d be slightly better off with only stocks/bonds. But what difference would the collective contributions of her and millions of other Americans make for the PE industry?
In recent years, PE funds have taken longer to sell off their portfolio companies and produce a return on investment, in part because of high interest rates and economic uncertainty. This has led to university endowments dropping their private equity positions and pension plans dialing back on private equity in exchange for more bonds, regarded as a reliable investment in a high-interest environment.
On top of that, private equity investors tend to reinvest their earnings from PE fund exits into new PE funds. They can’t reinvest those earnings if they aren’t getting any.
So while PE funds are still managing trillions of dollars in assets, they’re having trouble raising new cash. Altogether, new PE fund investment capital declined by ~64% from 2021 to 2024.
The Hustle
In other words, it’s possible Jane would benefit from an infusion of private equity funds in her 401(k). But private equity needs her more than she needs it.
