Traditionally, 401(k) plans have limited their investment lineups to public equities, fixed income, and similar investment options. More recently, however, there has been growing interest in alternative, non-traditional investments as a means for enhancing diversification and improving long-term risk-adjusted returns. These alternative investments, while lucrative, also pose concerns regarding transparency, complexity, illiquidity, higher fees, and increased regulatory and legal risks. Here is a brief look at what new and pending guidance may mean for plan sponsors. The Executive Order: In August, the White House issued an Executive Order (the “Order”) entitled, “Democratizing Access to Alternative Assets for 401(k) Investors.” This
Order defines alternative assets to include private market investments not publicly traded, real estate (including debt instruments secured by real estate, actively managed vehicles investing in digital assets, commodities, projects financing infrastructure, and lifetime income strategies).
The Order directs the Department of Labor (“DOL”) to reexamine its current guidance under ERISA on the fiduciary duties tied to alternative assets, and within 180 days, clarify when fiduciaries may prudently include alternative assets in participant-directed plans. Additionally, the Order tasks the Securities Exchange Commission (“SEC”) with considering rule changes that create ease of access for participant-directed defined contribution plans. Of note, the DOL, in response to this Executive Order, has rescinded its 2021 guidance on alternative assets, which cautioned plan sponsors against including these investments in defined contribution plans. What Plan Sponsors Can Do Now: While new guidance is in process, plan sponsors can begin preparing so they are ready if and when the regulatory pathway emerges for alternative assets and/or when alternative options become available on the market. Potential action steps include:
- Reviewing Investment Policy Statements and Plan Documents: Determine whether your plan documents allow for alternative investments directly or in target-date funds or other fund structures. Additionally, consider whether amendments may be needed to authorize alternative assets or to grant flexibility for future authorization.
- Engaging experts, consultants, and ERISA counsel: Seek assistance from specialized legal counsel, investment consultants, and third-party providers who can help assess what type of alternative investment options are feasible, prudent, and consistent with ERISA regulations. Additionally, begin thinking about due diligence standards, including the criteria you may require regarding fee structures, liquidity terms, valuation policies, reporting, etc.
- Assessing whether alternative investments make sense for your participants, company size, and resources: Consider whether your plan’s size, resources, governance, and participant profile make alternative asset investments feasible. Larger plans, for example, may have greater capacity to handle the complexity of alternative asset investments, while smaller plans may need to use pooled vehicles. Additionally, determine whether alternative assets will be offered as a part of your core investment options lineup, as an optional choice for participants, or via brokerage windows.
- Considering participant education and disclosures: Should you choose to include alternative assets in your investment option lineups, you will need to provide clear disclosures about risks, fees, liquidity constraints, and performance expectations. Consider how you will draft and disseminate educational materials or tools so that participants understand how alternative assets fit within a diversified retirement portfolio.
Over the next 6-12 months, plan sponsors will want to keep a close eye on revised rules and guidance from both the DOL and the SEC. This allows additional time for sponsors to establish strong governance, document decision-making processes, choose the right products and providers, and ensure participants are protected and educated. Remember, alternative assets may be a valuable addition to your investment lineups, but prudence is required. Consider the legal, financial, and reputational risks these investments may bring, as well.
