Podcast Summary: Ask The Compound – "Does Private Equity Belong in 401k Plans?"

Date: May 7, 2025
Host: Ben Carlson (A), Duncan Hill (B)
Guest: Michael Sidgemore (C), host of “All Goes to Mainstream” podcast and newsletter

Episode Overview

This episode explores the increasing interest and access to private investments such as private equity and private credit, especially for individual investors and within retirement plans like 401(k)s. The hosts and guest, Michael Sidgemore, clarify the role of private markets, assess current risks and opportunities, discuss industry structure and operational changes, and debate whether private equity belongs in tax-advantaged plans.

Key Discussion Points & Insights

Introduction to Private Markets

• Definition & Scope: Private markets involve investments not listed on public markets—private equity, private credit, real estate, infrastructure, secondaries, and more.
  • Quote (Michael Sidgemore, 03:06): "Private markets are about $15 trillion or so of AUM today... it could double... in the next six to eight years."
• Current Allocation Disparity: Institutional investors (endowments, pensions, sovereign funds) often have 20-40% of portfolios in private assets; individual investors only 1-2% due to regulatory and operational challenges.
• Market Evolution: Alternatives are now going mainstream, shifting the conversation on diversification and return generation.

Should Private Investments Be Part of Diversified Portfolios?

• Diversification Value: Private markets provide access to different company sizes, structures, and types of returns, potentially broadening returns away from concentrated public market portfolios.
  • Quote (C, 07:46): "Diversification is one area where private markets can add to an individual's portfolio."

Private Credit: Growth, Risks, and Returns

[08:03–16:45]

• Market Growth: Private credit AUM has grown from hundreds of billions to $1.7 trillion and could reach $20–$40 trillion.
• Difference from Public Credit: Previously, banks made these loans. Post-2008, PE firms (Apollo, Blackstone, etc.) have taken this role.
  • Quote (A, 10:44): "It's companies like Apollo and Blackstone and these big private equity companies that are making these loans banks once made."
• Systemic Risk: Transferring credit from bank balance sheets to private markets may reduce systemic risk by improving duration matching.
• Risks & Returns: Returns are high (high single digit to low double digits, net of fees), but risks include illiquidity, complexity, and underwriting quality. Not every “attractive” yield accounts for risk or fees.
  • Quote (C, 14:37): "If you don't need the liquidity on a daily basis... private credit may have some place in the portfolio."
  • Quote (A, 15:09): "Back to the fee thing. It tends to be a management fee... and then maybe a hurdle rate..."

Who Should (and Shouldn’t) Invest in Private Assets?

[16:46–25:43]

• Thresholds for Participation: Private markets are increasingly accessible, with major platforms (e.g., Schwab) rolling out offerings for qualified investors.
• Complexity Caveat: Past institutional investors have sometimes been overwhelmed by the operational and analytical demands.
  • Quote (A, 17:16): "There was a lot of institutions that definitely had the understanding... but there was also a lot... that ... shouldn't have been investing in them."
• Manager Selection Critical: Returns vary widely between top and bottom managers—much more so than in public markets.
  • Quote (A, 20:24): "The outperformance in private investments, if you’re not in the best funds... your experience is probably not going to be great."
• Ease of Access: Innovations like interval funds and evergreen funds are lowering operational hurdles and “J-curve” complexities for individuals and advisors.

Risks of Illiquidity

[25:51–29:44]

• Liquidity Structure: Evergreen, interval, and tender offer funds may offer periodic redemptions (quarterly, annually, or at manager’s discretion), but investors can’t rely on instant access.
  • Quote (C, 27:52): "You can't necessarily rely on that being liquidity... you should think this is, it's private markets. So it's more illiquid."
• Behavioral Advantage: The absence of daily price marks can help some investors tolerate volatility, but reduces transparency and flexibility.

Exposure via Publicly Traded Asset Managers

[25:51–35:01]

• Indirect Exposure: Investors can buy shares of public firms like KKR, Apollo, and Blackstone, which benefit from the industry’s growth.
  • Quote (C, 33:02): "I do believe that asset management business models are fantastic… contracted management fees... relatively permanent capital."
• Not a Perfect Substitute: Public ownership doesn’t mirror the underlying asset exposure and is subject to public market volatility.

Private Equity in 401(k) Plans—Coming Soon?

[35:15–42:24]

• Industry Shift: Regulators, major asset managers (KKR, Apollo, Vanguard), and platforms are preparing for private markets access in retirement plans.
  • Quote (A, 35:44): "Tax-deferred retirement account seems like the perfect place for private investments in terms of time horizon and illiquidity."
• Likely Structure: Most likely, private assets will be included inside professionally-managed products like target date funds, rather than as stand-alone fund choices.
• Key Barriers: Regulatory approval, valuation accuracy, and education remain obstacles.
  • Quote (A, 38:12): "Do we think 401k investors will understand this and what are the 401k providers going to do on the education side?"
• Education & Ratings: Morningstar is rolling out ratings for evergreen and interval private market funds, providing some guidance analogous to public fund ratings.

Memorable Quotes & Moments

• On growth and democratization:
  • "Alternatives have gone a bit mainstream." (C, 05:02)
• Classic rule of thumb on access:
  • "If you don't understand these strategies, they're not for you." (A, 24:20)
  • "100%. That’s why you’re seeing so many firms make such big investments in education..." (C, 24:21)
• Behavioral benefits of illiquidity:
  • "One of the reasons people are able to buy and hold their house for so long is they don’t have to see the price every day." (A, 27:25)
• On the inevitability of private assets in 401(k)s:
  • "Whether you like it or not, or whether you understand it or not, this stuff is coming for the wealth management channel..." (A, 42:24)

Important Timestamps

| Timestamp | Segment/Topic | |-----------|------------------------| | 02:04 | What are private vs. public investments? (Basic definitions) | | 03:06 | Growth and allocation gap in private markets | | 08:03 | Private credit market size, risks, and why it’s grown | | 16:46 | At what wealth level do private investments make sense? | | 22:36 | Innovations: Interval and evergreen funds | | 25:43 | Who should avoid private investments? Start of the illiquidity discussion | | 27:25 | Pros and cons of illiquidity for investors | | 35:15 | Debate: Should private equity be in 401(k) plans? | | 38:57 | Regulatory and educational hurdles, Morningstar's new ratings | | 41:22 | Self-directed IRAs already offer some access | | 42:24 | Wrapping up; inevitability of access to private markets for individual investors |

Conclusion

The episode unpacks the nuances behind the trend of private investments trickling into the wealth management and retirement landscape. While private assets may enhance diversification and returns, they come with unique risks—illiquidity, complexity, manager selection, and operational challenges. As the debate heats up about access through 401(k) plans, the panel cautions that while industry innovation has made access easier, understanding and careful consideration remain crucial for investors at every level.

Final Advice

• “Do your homework.” (A, 42:24)
• “If you don’t understand it, don’t invest in it.” (A, 24:21)
• For education, check out Michael Sidgemore’s “Alt Goes Mainstream” newsletter and podcast.

For questions, submit to: askthecompoundshowmail.com
Guest resource: altgoesmainstream.substack.com

Summary by PodcastAI