Unemployment caused by the pandemic has exacerbated a systemic issue: Tens of millions of American workers lack the savings they need for a financially secure retirement. According to the World Economic Forum, the gap between Americans’ personal savings and the money they will need in retirement was $28 trillion in 2015 and growing at a rate of $3 trillion per year. Our country’s retirement system, once a reliable bastion of security for workers, is now failing far too many.
The shortfall has ballooned as a multitude of U.S. companies have forsaken the practice of providing retirement benefits through traditional company-funded pensions—known as defined- benefit plans—and shifted employees to defined-contribution plans such as 401(k)s, which put the onus on employees to save. Today, these plans are the dominant means of saving. However, legal barriers have long prevented participants in defined- contribution plans from gaining access to many of the higher-returning investment options that defined-benefit plans can employ.
Whereas defined-benefit plans can turn to “patient capital” options—such as private equity, real estate, and other private capital alternatives—to meet long-term obligations, defined-contribution plans are relegated to listed securities, index funds, and actively traded mutual funds. As a result, accumulating sufficient savings for retirement is a major challenge for millions of Americans. Persistently low interest rates also exacerbate the inability to earn adequate returns on savings.
It will surprise no one that, as leaders of two of the world’s largest private capital firms, we believe that giving people more access to the private markets can improve their chances of achieving better returns. The data are convincing. On an after-fee basis, private markets have outperformed global listed equities by over 500 basis points, or 5%, per annum over the past 20 years, according to Hamilton Lane.
Despite guidance from the Department of Labor issued in June 2020 that opened the door for it to happen, providing 401(k) and other defined contribution plans access to private markets requires overcoming obstacles. The private markets are illiquid, complex, and constantly evolving, and safeguards need to be in place to ensure that workers—particularly lower-wage workers—realize the benefits that private markets afford without taking undue risk. Investing in the asset class requires deliberation and expertise. This is not a do-it-yourself type of investing.
Because critics of opening private markets to 401(k) plans have raised concerns about transparency and reporting, the Labor Department is keenly focused on these issues. Its guidance concluded that plan fiduciaries are capable of keeping participants adequately informed about their private-market investments and of helping them understand how private-market asset managers generate returns. The industry has already moved toward greater transparency, which most reputable asset managers have embraced. Such concerns can be overcome by appropriately structuring the investment programs.
But while 401(k) plans are a valuable piece of the retirement puzzle, the most effective and least risky way for everyday savers to access private markets is through a centrally managed retirement program. The U.S. should establish a national guaranteed retirement account, a compulsory defined-contribution retirement program, similar to the superannuation plans in countries such as Australia. Superannuation funds are some of the largest investors in illiquid markets. They are managed by professionals who understand private markets investing and how to align their programs with the longtime horizon of saving for retirement. Other systems have been proposed, as well. The common traits: They’re professionally managed, have access to private markets, and invest with an eye to steady capital appreciation over the long haul.
Another important factor is the length of time during which Americans actually save. For the model to work in the U.S. would require that people start saving at the outset of their careers—sooner than most do. We’re talking about relatively modest contributions, perhaps 1.5% employee and employer contributions. But the process has to begin early, since starting to save for retirement at the age of 40 undercuts the effectiveness of these long-term programs. Over time, the value they generate is clearly there.
At a minimum, the U.S. retirement system needs regulatory reforms that remove the barriers to access to private markets for all working Americans. But what’s really needed is a comprehensive reform, putting in place a holistic program such as the guaranteed retirement account. It’s time that all Americans are able to benefit from a better system without the current regulatory limitations that encourage plan fiduciaries to favor liquid investments over longer-term private investments.
Private-market investment programs may not be silver bullets, but structured and run appropriately, they can go a long way in helping people attain greater financial security in retirement.
Tony James is the executive vice chairman of Blackstone. Hartley Rogers is the chairman of Hamilton Lane.
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