New research from Cerulli Associates and the Defined Contribution Alternatives Association (DCALTA) seeks to uncover misconceptions surrounding private equity in defined contribution (DC) plans.
The whitepaper, “Unlocking the Potential of Private Investments in Defined Contribution Plans,” argues for the usage of alternative assets in retirement plans, noting that plan sponsors who incorporate private markets expose participants to a “broader investment universe” with the “potential to improve participant outcomes.” This shift should therefore be imperative to plan fiduciaries, DCALTA contends.
“It is critical for the industry to continue educating stakeholders on the benefits of including an allocation to alternatives in professionally managed solutions which allow participants to access their assets when needed to meet their retirement obligations,” notes Jonathan Epstein, president and founder of DCALTA, in a statement.
The whitepaper challenges four common myths associated with alternative investments in retirement plans.
The first dissects the misconception of participants investing directly in private markets through the plan’s investment menu. Rather than investing in these funds directly, participants will only have access to the funds through a target-date fund (TDF) or managed account—both of which are administered and overseen by an investment manager.
Participants who invest in alternatives through a TDF will use a target-date vintage, the research notes. This is otherwise similar to how many participants already invest in equity and fixed-income allocations.
Those who utilize managed accounts will incorporate personal factors, like expected retirement date and risk tolerance, to modify their allocations to alternative investments.
The second misconception looks to dispel the issue of illiquidity in private markets. Cerulli notes that private market investments are illiquid and can limit participant access to retirement assets but adds that “some managers plan to maintain quarterly liquidity in their underlying private market strategies,” therefore “plan participants themselves will likely still have daily liquidity via the other underlying funds.”
The research also comments how a growing number of private market asset managers and collective investment trust (CIT) trustees are working together to offer more liquidity in these investments.
Third, Cerulli and DCALTA confront the theory that offering alternative investments in retirement accounts increases the likelihood of litigation. While the research acknowledges these fears, it also observes that future education on implementation and oversight will eventually sooth plan sponsors’ worries of litigation risk.
“An industry expectation exists that with time and successful private market strategy implementation in DC plans, plan sponsors will face reduced litigation risk,” the research states. “A key focus will be ensuring that such strategies are included with proper oversight.”
Finally, the research argues against the idea that private market assets are unvalued because they are not traded on a daily exchange like other investments such as ETFs. It states that private funds will encompass only a small share of participants’ investments and will therefore reduce the risk from “individual valuation shifts within a broader portfolio of public and private market assets.”