401(k) Plans Face Call to Expand into Private Markets for Better Returns

America’s defined contribution (DC) retirement savings system, which includes workplace 401(k) plans, is a significant component of global retirement finance assets, totaling $12.4 trillion. Over the past four decades, this system has served millions of working Americans, introducing innovations such as automatic enrollment, automatic contribution escalation, target date funds, and managed accounts. However, despite these advancements, U.S. DC investment allocations have remained limited to publicly traded stocks and bonds, overlooking private market investment opportunities like real estate, private equity, private credit, and infrastructure. These private market assets are considered core investments by leading defined benefit (DB) pension funds, endowments, and sovereign wealth funds worldwide.

The financial landscape has shifted, with higher interest rates and volatile equity returns making traditional asset classes less reliable for meeting retirement goals. Private markets offer an alternative with differentiated sources of return, such as infrastructure projects with inflation-linked cash flows and private credit strategies that perform well in tighter credit markets. U.S. public pension funds like CalPERS and Texas Teachers have long invested in private markets, raising the question of why 401(k) savers should be denied access to these beneficial strategies. The future relevance of the 401(k) system will depend on expanding investment avenues, which private markets can provide.

Globally, respected institutions like Canada’s DB pension funds, Australia’s DC superannuation funds, and pension funds in the U.K., Sweden, Denmark, and the Netherlands allocate a significant portion of their investments to private assets. These institutions recognize that private market assets offer high risk-adjusted returns, diversification, and low correlation with public equity markets over long-term investment horizons. Modern portfolio theory supports this approach, emphasizing the importance of diversifying across uncorrelated asset classes to reduce risk and enhance long-term returns. Private market investments provide this diversification and allow pension funds to harvest a “liquidity premium” for allocating to long-term strategies.

For long-term 401(k) investors with multi-decade horizons, short-term liquidity is not a major concern. A typical 401(k) plan participant in their twenties, thirties, or even forties may have 30 years before they need to tap into their savings. This aligns well with the extended holding periods of real estate, private equity funds, and infrastructure projects. Middle-class DC retirement savers should benefit from strategies that align their investment and retirement time horizons, as has long been standard practice for DB pension funds and endowments.

The structure of contemporary capital markets has also evolved, with the U.S. public equity market shrinking from about 8,000 publicly traded companies in the 1980s to around half that today. Meanwhile, private markets have boomed, with many valuable and innovative companies remaining private well into maturity. As a result, many of the fastest-growing companies are funded by venture capital and private equity, not public equity markets. DC investors have only seized opportunities in the public markets, missing out on some of the most dynamic segments of capital markets and the global economy. Additionally, U.S. public equity markets have become remarkably concentrated, with the so-called “Magnificent Seven” making up more than 30% of the S&P 500, creating historically unprecedented market concentration risk. The incorporation of private assets in DC plans could play an important strategic role in mitigating that risk through asset class diversification.

Skeptics often point to fiduciary concerns, regulatory risk, or the challenge of illiquidity as barriers to including private markets in 401(k) plans. However, these hurdles are not prohibitions but opportunities for innovation. The financial industry has created structures like private equity funds-of-funds, interval funds, collective investment trusts, and semi-liquid real estate vehicles that allow for some liquidity while maintaining exposure to private market returns. Plan sponsors, asset managers, and record-keepers have been given regulatory safe harbor and are well-positioned to lead—prudently, transparently, and inclusively. The next decade of DC plan innovation will define retirement outcomes for a new generation of savers. Expanding the 401(k) system to include private market assets is one of the most promising new opportunities to address the U.S. retirement challenge.