401(k)s May Soon Offer Risky Alternative Investments

Presidential Order Opens Door to Private Equity, Crypto Despite Warnings

Americans’ retirement savings could soon be exposed to a wider array of investments, including private equity and cryptocurrency, following a recent executive order. While proponents tout potential for higher returns, financial experts warn of increased risks and hidden costs for everyday savers.

Expanded Investment Horizons

President Donald Trump has signed an order aimed at broadening investment options within 401(k) plans. The directive encourages regulatory bodies to examine and clarify policies regarding alternative assets such as private markets, real estate, and digital currencies. This move could unlock access to a significant portion of the estimated $12.2 trillion held in American retirement accounts.

Financial expert Robert Brokamp of The Motley Fool noted the theoretical benefit: “The theoretical benefits are that everyday Americans can invest in a broader menu of companies.” However, he also cautioned about the inherent dangers. “There is a lot less transparency and liquidity in private markets,” Brokamp explained. “There’s not as much information about the companies, and it could be hard to sell your investments — especially during a panic and many, many investors are trying to sell at the same time.”

Concerns Over Fees and Volatility

Critics point to substantially higher fees associated with alternative assets compared to traditional mutual funds and ETFs. These can range from 1% to 3% in management fees, with performance fees potentially reaching up to 20%. In contrast, typical target-date funds charge around 0.3%.

Benjamin Schiffrin, director of securities policy at Better Markets, expressed concern that this change could “open the floodgates.” He added that plan managers have historically shown hesitancy to include private market assets. “I think up until now, you’ve actually seen a lot of hesitancy on the part of 401(k) plan managers to go down the road of including private market assets like private equity and private credit, things like that in the 401(k) plans,” Schiffrin stated.

The Securities Industry and Financial Markets Association (SIFMA) viewed the development positively. Kenneth E. Bentsen Jr., SIFMA’s president and CEO, commented, “Policy changes to expand access to private markets investments — appropriately tailored under ERISA and SEC rules — could serve to improve diversification, democratize access, and offer more investment choices to the benefit of everyday retirement savers.”

Potential for Significant Losses

Despite potential upsides, many financial professionals fear detrimental impacts for less-informed investors. Certified financial planner and attorney Anh Tran warned that individuals might be swayed by the allure of high returns without fully understanding the risks. “It could be detrimental to less-informed investors whose only investment account is their 401(k),” Tran said. “Without proper guardrails, such as limiting exposure to 5% to 10% of the portfolio, these investors could be exposed to unnecessary risk, misaligned expectations and potentially irreversible losses.”

Knut Rostad, co-founder and president of the Institute for the Fiduciary Standard, echoed these concerns, predicting a potential “massive train wreck.” He believes fiduciaries may disregard the directive due to the foreseeable negative outcomes. “I think in practice, there’ll be many fiduciaries who ignore this directive because they understand precisely what will result from it,” Rostad stated. “The result will be a massive train wreck where many people are seriously hurt. Their retirement accounts will be annihilated.”

Cryptocurrencies present their own set of dangers. “It’s not clear what, if any, protections investors are going to have when it comes to investing in crypto,” noted Schiffrin. “So that just is a whole separate category of risks that having crypto in 401(k)s opens up.”

The executive order directs the Department of Labor to review its guidance on alternative assets within 180 days and tasks the Securities and Exchange Commission with exploring ways to facilitate access. Experts anticipate changes may take months, emphasizing the immediate need for robust education and safeguards, particularly for younger investors and those without professional financial advice. “There must be transparency, education and limits in place to prevent widespread harm,” said Tran. “Otherwise, we could be setting the stage for not only financial loss, but broader economic and social consequences.”