Wall Street Wants Alternatives in 401(k)s. Advisors Aren’t Convinced

Private market investments are quickly becoming more accessible to the investing public, opening a whole new menu of investments to clients inside their retirement plans. Whether or not they’re needed is another story.

The steadily increasing appetite for alternative investments, including cryptocurrency, among retail investors presents new challenges for financial advisors. In addition to the broadening appeal of non-traditional investments inside the portfolios managed by advisors, there is the gradual expansion of alternative strategies inside sponsored retirement savings plans, which are typically managed beyond the purview of financial advisors. It’s creating a complicated view of clients’ retirement outlooks with both private and public investments sitting in both held and held-away portfolios.

“The idea of investing in alternative investments within a 401(k) plan is intriguing and will likely become more widespread,” said Jeff Brimhall, wealth manager at Savvy Advisors. While easy access to many alternative investments is still somewhat walled off by issues related to complexity, illiquidity, investment minimums and fees, Brimhall said the market is trending toward increased access to alternative strategies inside 401(k) plans and other forms of employer-sponsored retirement savings programs. 

“Perhaps target-date and other diversified all-in-one funds will start adding alternative investments as part of the fund, offering investors an initial way to gain access,” he added. “Investors can also access alternative investments through self-directed brokerage accounts available in some 401(k) plans.”

Alternative Reality

Historically, alternative investments, in the purest sense, have been reserved for wealthy individuals, institutions, foundations and endowments. But the gradual evolution of products and strategies that have brought down fees and increased liquidity has led to the steady migration of alternative strategies into the retail investor marketplace. 

In sync with the kind of innovation and packaging inside products like mutual funds and ETFs that often place alternatives alongside traditional investments, the financial services industry continues to campaign for broader distribution of strategies designed to maximize returns and minimize risk.

“If the alternative investment is otherwise a good asset managed by a good and reputable manager, individuals should be able to invest in it the same way institutions and the high-net-worth invest,” said Michael Reisner, co-founder and co-chief executive at CION Investments. The fact that a product doesn’t have daily liquidity doesn’t automatically make it unsuitable in a retirement plan either, he added. “In fact, that illiquidity is why some people think alternatives could be a good fit for retirement plans, because that is, for the most part, long-term money.”

Here’s My Number, Alt Me Maybe

According to a new report jointly produced by CION Investments, YCharts and Compound Insights, the trendline favors wider adoption of alternative strategies. Based on a survey of 301 registered investment advisors, 95% of advisors are now using alternatives inside client portfolios, and alternative allocations represent at least 10% of total assets for 68% of clients using them. The report also found:

• Some 52% of advisors listed infrastructure and real assets as products they would like to use more, 46% listed private equity, 36% listed private credit and 28% listed crypto-related exposure.
• As for alternative strategies they are currently using, 61% of respondents cited evergreen vehicles and interval funds, while 50% mentioned liquid alternative ETFs, which qualify as a retail class product that could find its way onto a 401(k) plan menu.

“Savers are being exposed to more types of investments, and this exposure creates more familiarity and comfort with investing in non-traditional assets,” said Brimhall of Savvy Advisors. “If an employer starts to hear from a large number of their employees that they would like these types of investments made available in the 401(k) plan, they will be much more likely to add them,” he added.

Even as momentum grows for increasing access to alternative investments, there is no mistaking the resistance, or at least reluctance, from various corners of the financial advice industry.

“Most 401(k) investors do not need exposure to alts in order to be successful at investing,” said Michael Espinosa, a retirement plan advisor at TrueNorth Retire. “The demand for crypto seems to be correlated to its price, and we are nowhere near the all-time highs currently so it is no surprise that I haven’t gotten too many inquiries about crypto lately,” he added. “Participants tend to ask about it when it is making news headlines.”

Lock It Like It’s Hot

Jeff Judge, managing partner at Chesapeake Financial Planners, said he spent the last two years fielding questions from clients about alternatives and crypto investing. “I treat crypto as speculation, not diversification,” he said. “And the correlation story that justified crypto a few years ago hasn’t held up.”

Judge’s reference is to flagship cryptocurrency Bitcoin, which is down almost 50% from the all-time high it reached in October. “If a client wants crypto exposure, we size it so a total loss changes nothing about the retirement plan, and for most people, that’s low single digits,” he said. “I’d rather someone own a small position they can hold through a 70% drawdown than a large one they panic out of at the bottom.”

Whether it’s with crypto or alternative strategies, Judge believes a 401(k) is the last place to experiment. When it comes to the purest forms of alternative investments, which are not packaged inside liquid vehicles like mutual funds and ETFs, Judge bristles at the idea of long-term lockup periods. “Private alts are a different conversation, and liquidity is the part clients underweight,” he said. “You’re trading flexibility for a return premium that may or may not show up net of fees.”

Alt’s Well That Ends Well. Judge recalled last year when a client in his mid-50s wanted to invest in a private credit fund with a multi-year lockup. “We ran his cash needs and found a tuition bill landing squarely inside the gate window,” Judge said. “Nothing about the fund was bad. It just didn’t fit him.” 

But on the specific topic of access to such non-traditional strategies through retirement savings plans, Judge sees the pressure from the financial services industry. “Plan sponsors carry fiduciary duty under ERISA, and offering an asset class most participants can’t evaluate is real exposure,” he said. “My concern isn’t that the options exist, it’s that a participant who can’t tell you what their target-date fund holds is now being handed a menu item with a fee structure and a risk profile they won’t read. That’s why I tell clients to speculate in their taxable accounts, not in the account they’re retiring on.”