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Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.
The writer is professor of law at Brigham Young University Law School.
After months of lobbying, private asset managers got their prize last year when President Donald Trump signed an executive order paving the way for 401(k) retirement savings accounts to invest in private markets.
With a green light imminent from the Department of Labour and the Securities and Exchange Commission, we are staring down the barrel of one of the most significant changes in recent history to the design of US capital markets and of the US retirement system.
It’s tempting to believe the administration when it says that access to private markets will give retail investors “stronger and more financially secure” retirement outcomes. After all, this is the age of private capital: companies and capital have been shifting away from the public markets for decades. Democratising the private markets and extending their benefits to retail investors is only fair, right?
This is a nice story, but it masks real potential harms for retail investors and the economy. For starters, the private markets are not as rosy as the industry claims. While some indices show private equity outperforming public markets, academic research suggests that much of that premium disappears once risk and leverage are properly accounted for. So even if retail investors could replicate the industry’s historical average returns, it’s unclear whether those returns would meaningfully improve their risk-adjusted outcomes compared with public-market exposure. A massive influx of 401(k) money would only drive returns down further — a classic “money chasing deals” problem.
This would be an especially bad time to usher 401(k) investors into private markets and private funds. The market is already saturated with institutional money, and a multi-year bottleneck in deals means that private equity and venture capital funds are struggling to turn their holdings into cash.
Instead, sponsors are resorting to continuation funds — selling assets from one fund to a new fund they also manage, essentially flipping assets in the absence of an exit to an external buyer while they continue to collect fees. As for private credit, the retail investor experiment there is already raising red flags, with valuation and liquidity concerns at Blue Owl and other “semi-liquid” funds driving market chatter of a bursting bubble.
In short, private markets today are not only bloated and illiquid, but also rife with conflicts of interest. There may be rational ways to bring 401(k)s into the private markets eventually, but this is neither the time nor the way to do it.
It’s worth remembering why US retail investors have thrived in the public markets for the last half-century. Thanks to the magic of index funds, retail investors can freeride on the efforts of institutional investors and get the same market return as everyone else, at near-zero cost. By contrast, there is simply no way to “index” the private markets. Even the most sophisticated investors in private funds get wildly different returns from one another — hardly an attractive prospect for 401(k)s.
So while it is true that pension funds already routinely invest in private equity and venture capital funds, many do far worse in these markets than public-market indexers. How will 401(k) investors fare, by comparison? 401(k) plan managers are notoriously bad at selecting actively managed funds in public markets. Private funds layer on high (and opaque) fees that eat into gains. And no one has explained how 401(k) investors would get in and out of illiquid investments that rarely face objective valuations. Shifting 401(k) money to the private markets would only hasten the decline of the public markets that have served investors and the economy so well.
Our economy undoubtedly benefits from vibrant private markets — and the distinct role they play alongside public markets. Venture capital seeds transformative innovations, and private equity can make companies both small and large more profitable. But the more private markets start looking like the public markets, the less transformative they will be. A mass move by retail investors into private markets would mean more litigation, regulation, and public scrutiny — all of which would signal the end of any comparative advantage for the asset classes. The result will be private markets with all the costs of the public markets, but with none of the benefits. If we’re going to transform the securities markets, the stakes should be clear: Large-scale retail access to private equity will help private asset managers but hurt 401(k) savers and the economy more broadly.
Elisabeth de Fontenay, professor of law at Duke University Law School, contributed to this article
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