With private equity gaining traction among everyday investors, it's crucial to determine if it aligns with your retirement plan.

If you've been keeping up with financial news or checking your 401(k), you've likely noticed swift changes unfolding in the investment landscape.

We're seeing more than just stocks and bonds. A recent executive order has paved the way for private equity, private credit, and crypto to appear in your 401(k) alongside traditional retirement options.

On one side, increased choices can be beneficial. Remember when ETFs first emerged? Conversely, these alternative investments often carry higher fees, added complexity, and lead to significant questions about their suitability for the average investor.

So, what implications do these shifts hold for your retirement savings?

This week, financial expert Liz Miller, a CFP® and CFA, shared insights on a podcast about private equity, private credit, and the role of crypto in retirement investing, as well as whether these options should be part of your 401(k).

What Is Private Equity?

Jean Chatzky: Let's clarify: what are private credit and private equity?

Liz Miller: These fall under the category of alternative investments. They're termed alternatives because they can't be easily purchased through a brokerage account and don't trade daily on public markets. Private equity pertains to acquiring shares in a private company, typically with the hope that its value will increase over time.

Private credit, often viewed as private fixed income, involves companies seeking loans from investors instead of traditional banks. This results in a private bond, which we refer to as private credit. While it can be directed at specific companies, in the context of 401(k)s, it usually appears in a fund structure comprising various investments.

Should You Include Private Equity in Your Retirement Strategy?

Jean Chatzky: Let's examine the fees associated with private equity. Typically, they charge around 2% plus 20% of any profits. This model contrasts sharply with average index fund ETFs, which have significantly lower fees. How typical are these costs in retirement accounts, and what should investors consider regarding these expenses?

Liz Miller: These investments have historically been costly. Over time, returns from these funds seem to diminish as they grow in popularity. Investors previously accepted high fees for higher returns compared to public markets, but as the market expands, those high returns may become less common.

Final Thoughts on Private Equity in 401(k)s

Wall Street is always looking for ways to innovate. When opportunities arise to broaden access to products typically reserved for high-net-worth individuals, they will act. However, more options don't automatically translate to better outcomes.

Before considering private equity (or crypto) for your portfolio, reflect on these questions:

  • Do I fully understand how this investment operates?
  • How might fees affect my long-term growth?
  • What liquidity am I sacrificing?
  • Does this fit my retirement timeline and income strategy?
  • Am I investing based on strategy or simply because it sounds appealing?

For many, low-cost diversified index funds continue to provide a solid foundation. For others, a small allocation to alternative investments might be beneficial, but only as part of a carefully crafted strategy.

The key takeaway isn't whether private equity is advantageous or not. It's about ensuring you're not pressured into new investments simply due to their increased visibility.