The risk of private equity in your 401(k)

Summary

Episode Summary: "The Risk of Private Equity in Your 401(k)"

Podcast: The Indicator from Planet Money
Hosts: Darian Woods and Paddy Hirsch
Release Date: July 30, 2025

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Introduction to Private Equity in 401(k) Plans

In this episode of The Indicator from Planet Money, hosts Darian Woods and Paddy Hirsch delve into the contentious topic of integrating private equity options into 401(k) retirement plans. The discussion explores the multifaceted risks and benefits associated with such investments, the political maneuvers surrounding potential policy changes, and expert opinions on the feasibility and prudence of this financial shift.

Understanding Private Equity and Current 401(k) Investments

Private equity (PE) involves investing in private companies that are not publicly traded on stock exchanges like the NYSE or NASDAQ. Unlike traditional 401(k) options, which typically include highly regulated and publicly accessible securities, PE is characterized by its private nature, higher risk, and potential for greater returns.

Darian Woods introduces the debate surrounding private equity:
"Private Equity to some people, private equity funds are sober agents of efficiency and corporate optimization. To others, they're a horde of asset stripping barbarians intent on draining every penny of value out of vulnerable enterprises like, I don't know, local newspapers and Little League." [00:28]

Regulatory Framework: ERISA and the Prudent Man Rule

The conversation pivots to the regulatory landscape governing 401(k) investments, primarily through the Employee Retirement Income Security Act (ERISA). Anita Mukherjee, an associate professor at the Wisconsin School of Business, emphasizes the importance of ERISA in safeguarding retirement investments:
"ERISA is really important. It's the foundation of a lot of what protects our 401 investments for workers today." [03:09]

ERISA mandates that investment plan providers act solely in the interest of participants and manage plans prudently. This "Prudent Man Rule" restricts investment options to those deemed suitable for long-term retirement savings, traditionally excluding high-risk assets like private equity.

The Push for Including Private Equity in 401(k) Plans

Despite these restrictions, private equity firms have been lobbying to relax ERISA's guidelines. Paddy Hirsch explains:
"Private equity funds have been lobbying for years to tweak ERISA and nudge the prudence calculation in their favour." [06:24]

During the Trump administration, this lobbying bore fruit as firms like Panthe Ventures and Partners Group received a favorable letter from the Department of Labor in 2020, signaling that private equity could be included in 401(k) plans if ERISA guidelines were met. However, the Biden administration later clarified opposition, dampening private equity's immediate prospects within retirement accounts.

Potential Executive Order and Its Implications

With the Trump administration showing interest in furthering private equity's role in retirement plans, discussions arose about a potential executive order. The anticipated order aims to solidify the Department of Labor's stance, providing additional legal protection for plan managers to offer private equity options. Anita Mukherjee notes:
"The Trump administration made it easier for plan sponsors and employers to invest in private equity without necessarily facing consequences if those investments didn't pan out." [07:32]

However, Darian Woods points out uncertainty surrounding the specifics of the expected executive order:
"We don't know what's in the expected executive order yet, but the general opinion seems to be that it will formalize what the Department of Labor said in that 2020 letter." [08:20]

Benefits of Including Private Equity in 401(k)s

Proponents argue that private equity offers higher returns and diversification benefits absent from traditional public market investments. Ana Maria Lussardi, a senior fellow at the Stanford Institute for Economic Policy Research, suggests that younger workers with longer investment horizons might appreciate the opportunity for higher growth:
"Younger workers who might wish to be more aggressive with their investments... might welcome the chance to have a wee flutter in the private market." [04:10]

Furthermore, the shrinking number of publicly traded companies and the exponential growth of the private equity market highlight a potential shift in where investment opportunities lie. Darian Woods cites statistics:
"Since 2000, the number of companies that are publicly traded on the main exchanges has shrunk by 35%. Meanwhile, the private equity market has grown 400%." [08:43]

Risks and Challenges of Private Equity in Retirement Plans

Contrasting the benefits, the episode underscores significant risks associated with private equity. These include:

• Higher Risk and Lower Transparency: Private companies lack the regulatory scrutiny of public firms, making it harder for investors to assess their viability.
  "Private companies aren't subject to the same kind of regulation as public firms. They're less transparent." [05:31] – Darian Woods

• Liquidity Constraints: Private equity investments typically lock up funds for 7 to 10 years, ill-suited for the liquidity needs of retirement savings.
  "Private equity firms lock up your money for years." [05:51] – Paddy Hirsch

• Elevated Fees: PE funds charge substantial management fees (around 2%) and a significant share of profits (20%), which can erode returns.
  "The fees are much higher. 2% for the management fee and 20% of the profit." [05:51] – NPR

• Legal and Prudential Risks: Employers and plan managers face potential legal liabilities if PE investments perform poorly, despite any easing of ERISA restrictions.
  "It just hasn't been prudent in their eyes. And of course, there is the risk that if workers lost a lot of money because a private equity investment went south, they might sue." [06:04] – Darian Woods

Anita Mukherjee further critiques the compatibility of PE with retirement plans:
"It feels like putting a Ferrari engine in, like a minivan. It's sort of it's not intended to be a way to grow your investments in a wild way to retirement. It's intended to be sort of a steady way to save a reasonable amount for retirement." [09:39]

Expert Opinions: A Cautious Outlook

Both experts, Anita Mukherjee and Ana Maria Lussardi, express skepticism about the integration of private equity into the broader 401(k) ecosystem. They argue that while a niche segment of sophisticated investors might benefit, the overarching purpose of retirement accounts—to provide stable, long-term growth—may be compromised.

Paddy Hirsch sums up the hesitancy:
"Private equity isn't ever going to be a big part of the Union universe of 401k offerings. It just doesn't really fit that well with the core purpose of a retirement account." [09:25]

Conclusion: The Future of Private Equity in Retirement Plans

While the potential inclusion of private equity in 401(k) plans presents opportunities for diversification and higher returns, the accompanying risks and regulatory challenges remain substantial. The episode concludes with a realistic outlook that, despite favorable policy shifts under certain administrations, private equity is unlikely to become a mainstream option in retirement accounts in the near future. It will require careful navigation by plan managers and a clear alignment with the prudent management principles mandated by ERISA.

Darian Woods wraps up by tempering investor expectations:
"Don't expect to see a private equity investment option in your plan the moment the executive order is signed." [10:00]

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This episode provides a comprehensive examination of the complexities involved in potentially incorporating private equity into 401(k) plans, balancing the allure of higher returns with the imperative for prudent, secure retirement savings.

Transcript

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[NPR]

NPR.

[Darian Woods]

This is the Indicator from Planet Money. I'm Darian Woods.

[Paddy Hirsch]

And I'm Paddy Hirsch. Private Equity to some people, private equity funds are sober agents of efficiency and corporate optimization. To others, they're a horde of asset stripping barbarians intent on draining every penny of value out of vulnerable enterprises like, I don't know, local newspapers and Little League.

[Darian Woods]

Yeah, the phrase private equity brings a lot of emotion and whichever side of the fence you're on. The point is they are private. They're mysterious, risky and expensive. Not the kind of thing your average investor should be sticking their nose into, you might think. Except that's not what the president thinks. It appears Mr. Trump thinks we can handle private equity, which is why he's.

[Paddy Hirsch]

Reportedly on the point of issuing an executive order that could allow investment plans like your 401 Darian to include a private equity option.

[Darian Woods]

On today's show, we'll look at the potential risks and benefits of 401 investments in private equity, why the president might be issuing an executive order to make it happen, and whether he even really needs to. That's all coming up after the break.

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[Paddy Hirsch]

By companies to workers like 401 s typically only invest in highly regulated, publicly traded securities.

[Darian Woods]

Stock traded on a public exchange like the New York Stock Exchange or the nasdaq, or bonds regulated by the securities and Exchange Commission. The reason? Erisa.

[Anita Mukherjee]

So it stands for the Employee Retirement Income Security Act.

[Darian Woods]

This is Anita Mukherjee. She's an associate professor in the Department of Risk and Insurance at the Wisconsin School of Business.

[Anita Mukherjee]

ERISA is really important. It's the foundation of a lot of what protects our 401 investments for workers today.

[Paddy Hirsch]

ERISA doesn't say investment plan providers can't invest in the racier end of the market if it wanted to. NPR could give you, Darian, the option to put your money into private equity.

[Darian Woods]

If you can't beat him, join him. That's right. I see.

[Paddy Hirsch]

They could even give you an option to invest in venture capital, even crypto, but only if it met certain conditions.

[Anita Mukherjee]

Employers and plan administrators must act solely in the interest of participants and manage plans prudently.

[Paddy Hirsch]

Ah, yes, the Prudent Man Rule Indicator. Listeners know this one. We've got the episode in the show notes.

[Anita Mukherjee]

Yeah. So prudence, really, it's about. It's a difficult one. Right. Because it's just doing what's right for the employee.

[Darian Woods]

Doing what's right for the employee. Hmm. Could that include letting me roll the dice on private equity?

[Paddy Hirsch]

Well, come on, Darian. There could be value there for certain types of investors.

[NPR]

This might be more appropriate for young people.

[Paddy Hirsch]

Ana Maria Lussardi is a senior fellow at the Stanford Institute for Economic Policy Research. She says younger workers who might wish to be more aggressive with their investments, perhaps you, Darian, might welcome the chance to have a wee flutter in the private market. You know, to own a piece of a fund that's invested not in Google or Apple or whatever, but the next Google or the next Apple to indirectly hold a stake in those companies before they go public and before they go to the moon.

[NPR]

And this is why also the private equity has offered, by the way, this higher return. We are always going after the higher return, but this higher return comes with a higher risk. And I think something that the investor has to be aware of.

[Darian Woods]

Right. Some cold water on my dreams of higher returns with no risk. Anna Maria says private equity funds are inherently risky because of the kinds of companies these funds invest in.

[NPR]

We are talking about firms that are not public, are not traded in the markets, and these can be smaller firms, and they could also be firms that are more likely potentially to fail.

[Darian Woods]

Private companies aren't subject to the same kind of regulation as public firms. They're less transparent. So investors don't have the same ability to assess what their prospects are compared to public companies.

[Paddy Hirsch]

Yeah. And then there are all of the risks associated with the Private equity funds themselves. You know, these are not like your friendly, easy to trade, open book mutual funds.

[NPR]

No, sir, it's not as liquid as other mutual funds. Normally, private equity, you know, require investment to stay from 7 to 10 years.

[Paddy Hirsch]

Yes, you heard that right. Private equity firms lock up your money for years.

[NPR]

And most importantly, the fees are much higher. 2% for the management fee and 20% of the profit.

[Darian Woods]

It's these risks and restrictions and fees, not any laws against private equity, that have kept employers and plan managers from offering private equity as an investment option to their workers. It just hasn't been prudent in their eyes. And of course, there is the risk that if workers lost a lot of money because a private equity investment went south, they might sue.

[Paddy Hirsch]

Yeah. Anita says private equity funds have been lobbying for years to tweak ERISA and nudge the prudence calculation in their favour. Why? Well, because retirement accounts are where all of the money is.

[Anita Mukherjee]

Retirement assets in general are just massive. Right. Two thirds of all employer based savings are in 401k plans and there's $8.7 trillion in 401 plans. And I think if some of that can be invested in private equity, certainly that would be good for private equity to be able to take on more risks and see if they can get those returns.

[Paddy Hirsch]

Two funds in particular have led the charge to get their sticky digits on your 401. The US branches of Panthe Ventures, based in the UK, and of partners Group, based in Switzerland. Back during the first Trump administration, these two funds made their case to the Department of Labour, which oversees investment plans.

[Darian Woods]

And in 2020, the department wrote a letter back effectively saying, sure, we don't see why a plan manager shouldn't invest in private equity so long as they followed ERISA guidelines. Anita says this letter acted as an easing of the restrictions on what plan managers could offer.

[Anita Mukherjee]

The Trump administration made it easier for plan sponsors and employers to invest in private equity without necessarily facing consequences if those investments didn't pan out.

[Paddy Hirsch]

The letter gave plan managers some legal cover if something went wrong and an investor sued, in other words. But for the most part, 401k plans.

[Darian Woods]

Didn'T take the bait, especially once the Biden administration later clarified that it didn't think investing in private equity was generally appropriate for a 401.

[Paddy Hirsch]

And this was kind of a bummer for private equity. And they had a pretty lean couple of years in 20, 22 and 23, and they really, really, really, really wanted that 401k money, which is where the Trump executive order comes in.

[Anita Mukherjee]

The intention is to really encourage plans to take a step forward in this direction.

[Darian Woods]

We don't know what's in the expected executive order yet, but the general opinion seems to be that it will formalise what the Department of Labor said in that 2020 letter and a kind of presidential nod, if you will, that would give even more cover to companies that might want to offer a private equity investment option to workers.

[Paddy Hirsch]

And it is true that some workers might appreciate the opportunity to diversify away from public markets.

[Darian Woods]

I mean, since 2000, the number of companies that are publicly traded on the main exchanges has shrunk by 35%. Meanwhile, the private equity market has grown 400%.

[Paddy Hirsch]

What's more, says Ana Maria Lussardi, many 401 investors have gotten a lot more sophisticated as their retirement assets have grown.

[NPR]

As you move along in your career, and if you contribute monthly and yearly, you are starting to get a sizable amount of wealth, right? So we all are becoming, in a sense, potential good investor.

[Darian Woods]

Some of these investors may well want to take private equity risks, and private equity sure as heck wants their money.

[Paddy Hirsch]

Oh, my gosh, a match made in heaven.

[Darian Woods]

Well, maybe. But both Ana Maria and Anita agree that private equity isn't ever going to be a big part of the Union universe of 401k offerings. It just doesn't really fit that well with the core purpose of a retirement account.

[Anita Mukherjee]

It feels like putting private equity in 401k plans might be like putting a Ferrari engine in, like a minivan. Right? It's sort of it's not intended to be a way to grow your investments in a wild way to retirement. It's intended to be sort of a steady way to save a reasonable amount for retirement.

[Darian Woods]

In other words, even if you're one of the roughly 56% of 401k investors that actually does check your 401k allocations, don't expect to see a private equity investment option in your plan the moment the executive order is signed.

[Paddy Hirsch]

Both Anita and Anna Maria say it'll take time for plan managers and employers to figure out just what they can offer and to whom and how much legal protection an executive order might give them. The guidelines in ERISA may have been softened around the edges, but they haven't been eradicated. Prudence will still be required.

[Darian Woods]

This episode was produced by Cooper Gas McKim, with engineering by Robert Rodriguez. It was fact checked by Cierra Juarez. Kate Concannon is our editor. The indicator is a production of npr.

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