Eric Mogelof – Understanding the 401(k) Market – (EP.464)
Summary
401(k) Market Evolution: The podcast discusses the anticipated shift in the defined contribution (DC) market towards significant allocations in private markets over the next decade, with managed accounts and custom target date funds leading the way.
Retirement Market Overview: The U.S. retirement market holds over $40 trillion in assets, divided among defined benefit (DB), defined contribution (DC), and IRA markets, with DC growing the fastest and becoming the primary retirement savings vehicle for Americans.
Asset Allocation Trends: The IRA market is heavily skewed towards equity risk, while DB plans have significant allocations to private markets. DC plans, however, currently have minimal exposure to alternatives but are expected to evolve.
Target Date Funds: Target date funds dominate the DC market, with the majority of new flows directed towards them. The integration of private markets into these funds is seen as a gradual process, influenced by structural and regulatory changes.
Challenges and Opportunities: Incorporating private markets into DC plans faces challenges such as liquidity, daily pricing, and decision-making processes. However, managed accounts and custom target date funds are expected to adopt alternatives more rapidly.
Industry Dynamics: The podcast highlights the role of major asset managers like Vanguard, Fidelity, and BlackRock in shaping the market and the importance of strategic decisions regarding the inclusion of alternatives in investment solutions.
Future Outlook: The discussion emphasizes that while significant allocations to private markets in DC plans are inevitable, the transition will be gradual, requiring education and engagement with plan sponsors and adaptation to regulatory changes.
Investment Implications: As more capital flows into private markets, the importance of selecting top-performing managers becomes crucial, given the potential for substantial alpha generation in this growing investment space.
Transcript
It's not an if, it's really a when. Like there's no doubt in my mind in a decade from now we will see very meaningful allocations within that DC market to private markets. Whether it's 10% 15% it's going to be really really big. I would say over the next 3 to 5 years the offtheshelf is going to take the longest time to get adoption to move. But in the meantime, you're going to see a lot of allocations through managed accounts and custom target date. It will be a hockey stick, but it's not going to be a hockey stick in the next couple of months or couple of quarters. It really is going to take years for this to play out. [Music] >> Eric, thanks so much for doing this. >> Oh, Ted, thanks so much for having me. So, as a follow-up to our last conversation, there's so much noise about what's happening in the retirement markets moving to alts. I thought you'd be the perfect person to help just lay this landscape out, how it really works and what's going on. So, maybe the place to start is just at the highest level when people think of retirement accounts. How do you think of what that landscape is? >> You're right. There is a lot of energy and news and activity around the retirement space. If you were to look at the retirement market in the United States today, there is more than $40 trillion of assets in quote retirement accounts. And we think about it in terms of three large buckets. Define benefit, defined contribution, and the IRA market. Each of them are ultimately holding assets that are supporting the retirement of individuals. >> So if you look at those three categories, that 40 trillion has a breakdown. the defined contribution market which is about 12 and a half trillion dollars represents about 30% of the overall retirement market and then DB and IAS are actually split pretty evenly about 35% each. So, they're all really important, but what's really interesting to note is is that DC is growing the fastest. And if you look at it today, more than a 100 million Americans in the United States have a defined contribution balance and it really is becoming the primary vehicle for people to save for retirement. >> That 40 trillion is in the ground today. How is that money invested kind of asset allocation? So, and maybe we'll start with the IRA market. The IRA market has follows um private the private wealth market. If you think about it, most individuals are investing in their IAS through some type of wealth platform. And given the horizon of IRA money, longer term horizon, most balances tend to be skewed more heavily to equity risk. And so, you know, if you think that traditionally there's a 6040 stock bond portfolio in IRA, it's probably 60 to 80% equity risk. And historically, it's been primarily through the public markets. So, public equity and public fixed income. However, we are starting to see private markets get incorporated into IRA. And so, again, that's something that's happening and accelerated pretty quickly. >> And if you look at just that piece, Yep. today. What percentage of that do you think's private market? >> Sure, a couple of percent. You know, is it two, three, three to five? It depends on what data you find, but growing very quickly. >> And is there a particular flavor? Is it private equity, private credit, real estate? >> It's really all of the above. Early on, private credit was an area that was probably of greater prominence that you'd find in private wealth and also within the IRA space. Also given the tax nature, deferred tax nature of IAS, private credit actually fits in pretty well. But what we're finding today is it include it's PE, its infrastructure, it's real estate and it's private credit. >> So how about the DB channel? >> The DB channel interestingly for decades has been investing in the private markets. By the way, just as quick background within DB, there are really two different types of DB. There are public DB and then corporate DB. public think of governments like state pension plans or city or local municipalities and then corporate DB think of companies offering defined benefit plans. Both of them have historically had very significant allocations to private markets north of 30%. Within the public space that continues to be the case public DB plans are heavily allocated to equity beta equity type of risk north of 30% in public market public market equities north of 30% in private market allocations. Corporate DB used to look that way but over the last 20 years more and more of the assets in DB plans from corporates are getting allocated to fixed income. Now about 20 years ago, there was some accounting changes which gave companies a really strong incentive to start moving more assets to liability hedge. And so that's why you probably see north of 50 to 60% in fixed income, but still 20 plus% in alternatives and private markets. >> So that leaves the DC plan. Where are we today? The DC market asset allocation has been in my mind one of the most interesting evolutions that I've ever seen in the marketplace. Their DC plans have been around for a century. But the reality is given some changes in regulation and legislation, DC plans were really created in the early 80s. And back then there were investment lineup options that were public equity funds, public fixed income funds, something called stable value, which we can, by the way, spend an hour on. But the reality is they're really just a conservative, principally protected type of investment. But what was also interesting was back in the 80s and 90s, companies would provide a a 401k match using company stock. And so by the end of the '9s, more than 25% of all DC assets were in company stock. Now, interestingly enough, if you, you know, go to 2001, 2002, 2003, there were some pretty meaningful defaults. And so there was legislation that made it much easier for plan participants to diversify out of their company stock. And by the way, many 401k plan sponsors, virtually all of them stopped matching contributions in company stock and rather matched in cash. And so you saw a really meaningful change in an allocation away from those company stock ownership. And it's around that time that the creation of target risk and then target date funds emerged. And so just to give you a little bit more background. So these target risk and target date essentially it enables the plan participant to outsource that portfolio construction to an asset manager. And so if you look at where we are today, roughly 40% of all DC assets are in some type of investment solution, whether it's a off-the-shelf target date fund, a custom target date fund, or some sort of managed account. If you look at the DC assets today, what's the mix of traditional stock bond and alts? >> There is very little money in DC today that's in alternatives or private markets. Small amounts um very bespoke plans, but virtually the all of the allocations today are sitting in public markets. So when you hear the numbers like there's 12 12 trillion dollars in these DC assets and it's all coming all it takes is 1% or 2% or 5% then it's going to be hundreds of billions of dollars. How does it work? So if you break down the DC category into the different target date funds, custom target date funds and the the different investment options that an employee could pursue. How do you get from here to there? There is a really good reason to believe that over time we're going to see a really meaningful allocation to private markets in DC. But you're right to ask the question of how is it going to happen. So I would point to two different sort of things that have to happen. There are some structural things which we can talk about as it relates to daily pricing and navs and the way these things are set up in terms of liquidity. But then, and you're getting to this, is how do people actually access the target date funds? And by the way, I should mention north of 60% of all new flows in DC are going into target date funds. It's really important part of the market. The way to think about these investment solutions are there's really three ways that you can get exposure to a professionally managed or investment solution. The first is offthe-shelf target date funds. So think of in a 401k a corporation wanting to offer a 401k plan. Most corporations will go they'll find a recordkeeper to administer the plan and then they will select an investment lineup and that investment lineup is are in funds or CITs which is just a different type of vehicle that incorporates and is managed by a asset manager and that is the majority today of target date fund exposure and investment solution exposure. So there's $4.5 trillion in these investment solutions. Three and a half are in these off-the-shelf custom target dates. So for alternatives to be incorporated into those, you would look to the asset managers. The second category are custom target date funds. So there are companies, large companies that don't pick offtheshelf funds, but they actually create their own. They create their own investment glide paths. And these companies, by the way, there are some really big ones like Boeing and Ford and Intel, IBM, many of them had DB plans and they had built investment teams around them. And so it was natural for them when they were building out their their DC plans for them to create custom target dates using multimmanager, best-in-class managers. And so that's another way plan participants can get access to these target date strategies or experiences. The third way is through managed accounts. So most 401k platforms they have their investment lineup but then they also have an option for participants to get a managed account and those managed accounts are customized based upon the individual and either it's a financial advisor that's customizing those exposures or it's a financial engine where a plan participant will provide a certain set of information about who they are and their investment goals objectives and then they will get a generated custom management account for them. So those are the three ways that individuals get exposure to target date. Now each of them have a very different way that you can actually then get alternatives embedded in them. >> You start with the offtheshelf target date funds that are in the hands of an asset manager. What asset managers are involved in that space? There are really six managers that dominate the market. Probably have 85 plus percent of the assets. That's Vanguard, Fidelity, Black Rockck, State Street, Tro, and Capital Group. And so they have a really important strategic decision on how they want to think about incorporating alternatives. One really important piece of information which is really helpful to have which will inform their decision-making processes is how they originally sold those off-the-shelf custom target date. If you think about the decision-making process for most companies that choose off-the-shelf target date funds, the individuals that making that are making those decisions are either someone from their finance teams or someone from their human resources teams. They're not professional investors and it's not their full-time job to actually administer the 401k plan and pick and do manager selection, manager due diligence. And historically, the single most important factor in picking a target date fund lineup or fees. And so that's one of the reasons why you see the majority of target date funds today are in passive very lowcost strategies, right? And as a matter of fact, there was really an incentive for plan sponsors to pick the low fee option because in the DC market, 401k market, there's a lot of litigation risk. And so there was a view that by picking the lowest cost, it would potentially shield you from some potential litigation that you would could have from plan participants. >> So in that segment of offtheshelf target date funds, how do you move off of that and get into a higher fee alternative? There are two potential options. One is you could have these asset managers use their existing target date funds and add alternatives to them. I personally think that's highly unlikely. And as a matter of fact, as you talk in the industry, it's pretty apparent that that's not the avenue. And and part of the reason why is is if you're a company and you've made a decision to invest in a certain investment strategy that had a certain expo risk exposures, certain um fees, it's hard to imagine that someone is going to unilaterally change that strategy without you know you opining on I mean, imagine um you know, imagine you were uh subscribing to CA a cable company, right? And you looked at all the different cable company providers that may cover your house and you looked at all the different packages and you said, "You know what? I just want the lowest basic package, right?" You know, it's unlikely that that cable company is going to be able to go to you and say, "Hey, Ted, I've got great news for you. I'm adding all of these great channels, but I'm going to really increase your fees." It's probably not going to work, right? You may not want all those channels. You may be happy with the fees you're paying. What's much more likely is that asset managers that offer these off-the-shelf target date strategies are creating new target date funds that incorporate private markets. Now, what will have to happen then is the asset managers through intermediaries and advisors will have to engage with all those corporate plan sponsors and have a conversation with them says, "Hey, you have this target date fund. Would you consider are you interested in having a second target date fund on your platform? Here are all the benefits of incorporating private markets into a target date fund and a glide path. Would you like to add one? Would you like to take your existing one and map it to a new one? The challenge will be if you wanted to incorporate more alter alternatives into these. If you add a new series of target date funds, but also keep the existing target date ones, you likely won't see a ton of movement into those new target date funds. Now, that might be different if you make the target date funds with alternatives your QDIA, meaning the default option. What's more likely is we'll see a faster move if you take your existing target date fund series and map it to a new one where you take all plan participants and you move them automatically into a new target date strategy which does happen and again over time as more and more companies understand the value and the benefit of incorporating private markets into a glide path we'll likely see that it's easy to see why that switch could be challenging there's There's also the question of flows. So there's a certain amount of money in the ground. What does that picture look like of the money that's coming in to the DC world each year and then the money that's going out? So there is a tremendous amount of new money going into the DC space. But we also have to acknowledge that there's actually a fair amount of money coming out each year as well. And think about it, it's coming out in two different ways. One is because people are retiring and they need to draw on their savings to support their spending. But as people change roles, change jobs, it does also create pivot points for them to roll money out of their 401k into a rollover IRA. So while there is a huge dollars going in, there's a meaningful amount of those dollars that is ending back up in IAS that are professionally managed by wealth platforms and financial adviserss. If you go to the next group, the custom target date funds and the managed accounts, how does that decision process work? >> Yeah, that is where we would expect to see much faster adoption curve. So in again custom target date, you have professional investors at these companies that have created multi-manager best-in-class target date strategies. By the way, many of them use investment consultants, the same ones that, by the way, they use potentially for their DB assets. They're very familiar with private markets. We at KKR work with a lot of those plan sponsors and have conversations with them all the time about their DB assets. So, it's super easy and natural for them to start thinking about, okay, I can incorporate these into the DC glide path as well. Also, keep in mind that these professional investors, they understand the value of private markets. They understand the value of net of fee returns. And so again, it's a lot easier to envision that that happens sooner. >> So you've alluded to these two challenges of liquidity and daily pricing, which are not things that are typically characteristic particularly of private equity. How do you incorporate those needs into an investment in one of those strategies? So the 401k market and broadly DC market have all been built on a chassis that's really created for public markets and daily pricing and daily liquidity. And so today not all but most 401k plans enable participants to allocate dollars every whether it's by week by by monthly or at the end of each month and the plans can accept them and invest them right away. It also gives plant participants the ability to reallocate or change their allocation and even withdraw on some sort of more periodic basis than just month end. Maybe it's daily, maybe it's weekly. And so we all know that private markets are not daily liquid. However, there is the ability to incorporate private markets into target date funds where the funds can manage the liquidity. maybe they have a liquidity sleeve and so you can still have private markets in a target date fund and offer the ability for investors to invest or withdraw. So there is a solve there. The bigger challenge which again as an industry we can overcome is you still need to be able to mark these strategies on a daily basis. Right? If if people are going to invest in a target date fund on a daily basis or redeem, even if you're not changing the underlying allocation to private markets, you still have to transact at a nav. But we as an industry have actually already made progress, right? Historically, private markets were marked on a quarterly basis. Now, with the advent of evergreen wealth vehicles, they're marked on a monthly basis. And in fact, some private credit is actually marked on a daily basis. So, either one of two things have to happen. either the chassis in 401k needs to change and you restrict transactions to a monthly basis. What's more likely is we over time as an industry work on daily pricing all of the various different private markets. >> What is the one thing that you've found that most people misunderstand about what's happening now with this money in the private markets? Most people don't understand the decision-making processes around how a target date fund gets on a platform and how the evolution and change would happen. And so most people will say, "Oh, you know, this is great. All of a sudden, all the target date money is just going to drop an allocation to private markets." And the reality is there's structural reasons why that just are real barriers that have to be overcome. And so that's why like I don't see this as a massive revolution. I see this as a normal natural evolution as these alternatives become available as legislation changes. But it is going to take you know one by one engaging with plan sponsors to make them understand the value of incorporating private markets understanding the value that you're receiving on a net basis. And I think the industry doesn't fully embrace and understand the decision-making process to get there. Where is this already happening and where might it never happen? So in the managed account world, it's already happening and that's where you have most oftentimes recordkeepers that are administrating a a 401k have a managed account platform right adjacent and there they're already starting to add alternative private market options, evergreen wealth vehicles onto those platforms and starting to incorporate them into the financial engines and then many of the financial adviserss are already familiar with it. So that's where it's happening very quickly. By the way, there's another area that is evolving which is there are new plans or called PEPs or pulled employer plans which is an alternative to a 401k. So plan sponsors instead of administrating their own 401k they can actually outsource it to either an investment consultant or an RAIA it's already happening there within custom target date. It's just starting to happen and the conversations are just emerging with many of those plan sponsors off the shelf. It's really early days because again the decision maker is not a professional investor necessarily. It's and it's not somebody's full-time day job but there are whole teams of advisors and um professionals that are engaging and cover these clients. It's just going to take the education process is going to take time and that's also where legislation and government can make a difference. So we saw the executive order. We just recently saw the DO put out a statement regarding potentially incorporating private markets into some type of potential safe harbor where again if you're a plan sponsor and you have a qualified default investment option that incorporates private markets it's safe harbor meaning you're you know it's an acceptable prudent investment. So if you add up the various decision-m processes that have to work through some of the obstacles, some of the logistical challenges when people think of, oh, there's 40 trillion or there's 13 trillion in in DC plans and if only 10% of it's in the private markets, there's a $1.3 trillion coming in. How do you take those crazy large numbers and distill it to what you think may actually happen? maybe over the next say 5 years. >> It's not an if, it's really a when. Like there's no doubt in my mind in a decade from now we will see very meaningful allocations within that DC market to private markets. Whether it's 10% 15% it's going to be really really big. I would say over the next 3 to 5 years the offtheshelf is going to take the longest time to get adoption to move. But in the meantime, you're going to see a lot of allocations through managed accounts and custom target date. And so, you know, it will be a hockey stick, but it's not going to be a hockey stick in the next couple of months or couple of quarters. It really is going to take years for this to play out. But you know if you go and you and you think about that northstar of what the benefit of private markets is into a longer data longer horizon investment pool it's it's again that leads to really not if but really when over the next few years are there meaningful differences in the adoption of different called subasset classes within private markets >> what's likely is if you look at managed accounts I think there isn't I think there you're going to see adoption of all of the different private markets because they're all going to be available on platforms and again you have a financial advisor or financial engine that's allocating within custom target date my hunch is is that they'll probably start with private credit partially because it's there are solutions that are daily priced and part of it is because if you think about it it does have because of the nature of having distributions it does provide liquidity so it's a little easier potentially to manage. So I think within that custom space you'll probably start with private credit but I think relatively quickly within custom you'll see it move across PE infra and real estate as well. How do you think about the impact of all of these dollars coming in? And you could take take a broader brush of say private equity. You go way back and valuations were a lot cheaper and rates were on a long-term decline. And now you clearly have a tougher, more competitive environment. What will it take in terms of the production of returns from the industry to continue that momentum as the money starts to come in to the to the retirement market? >> Yeah. I look as we've talked about in the past, you know, more and more companies are staying private for longer and as a result, the opportunity set for private markets and private equity is growing substantially. Now I will always caution that there in this part of the market manager really matters and so you know the difference between a top quartile manager and a fourth quartile manager could be a couple thousand basis points and so you know what I would tell you is is that there's a lot of alpha opportunities within the private market space and as more capital comes into this part of the market I think the markets will continue to grow as as this becomes a really attractive and source of capital. >> Eric, thanks so much for sharing your insight and getting a little bit deeper understanding of how all this works. >> Well, Ted, thanks so much. Really appreciate the opportunity. [Music]
Eric Mogelof – Understanding the 401(k) Market – (EP.464)
Summary
Transcript
It's not an if, it's really a when. Like there's no doubt in my mind in a decade from now we will see very meaningful allocations within that DC market to private markets. Whether it's 10% 15% it's going to be really really big. I would say over the next 3 to 5 years the offtheshelf is going to take the longest time to get adoption to move. But in the meantime, you're going to see a lot of allocations through managed accounts and custom target date. It will be a hockey stick, but it's not going to be a hockey stick in the next couple of months or couple of quarters. It really is going to take years for this to play out. [Music] >> Eric, thanks so much for doing this. >> Oh, Ted, thanks so much for having me. So, as a follow-up to our last conversation, there's so much noise about what's happening in the retirement markets moving to alts. I thought you'd be the perfect person to help just lay this landscape out, how it really works and what's going on. So, maybe the place to start is just at the highest level when people think of retirement accounts. How do you think of what that landscape is? >> You're right. There is a lot of energy and news and activity around the retirement space. If you were to look at the retirement market in the United States today, there is more than $40 trillion of assets in quote retirement accounts. And we think about it in terms of three large buckets. Define benefit, defined contribution, and the IRA market. Each of them are ultimately holding assets that are supporting the retirement of individuals. >> So if you look at those three categories, that 40 trillion has a breakdown. the defined contribution market which is about 12 and a half trillion dollars represents about 30% of the overall retirement market and then DB and IAS are actually split pretty evenly about 35% each. So, they're all really important, but what's really interesting to note is is that DC is growing the fastest. And if you look at it today, more than a 100 million Americans in the United States have a defined contribution balance and it really is becoming the primary vehicle for people to save for retirement. >> That 40 trillion is in the ground today. How is that money invested kind of asset allocation? So, and maybe we'll start with the IRA market. The IRA market has follows um private the private wealth market. If you think about it, most individuals are investing in their IAS through some type of wealth platform. And given the horizon of IRA money, longer term horizon, most balances tend to be skewed more heavily to equity risk. And so, you know, if you think that traditionally there's a 6040 stock bond portfolio in IRA, it's probably 60 to 80% equity risk. And historically, it's been primarily through the public markets. So, public equity and public fixed income. However, we are starting to see private markets get incorporated into IRA. And so, again, that's something that's happening and accelerated pretty quickly. >> And if you look at just that piece, Yep. today. What percentage of that do you think's private market? >> Sure, a couple of percent. You know, is it two, three, three to five? It depends on what data you find, but growing very quickly. >> And is there a particular flavor? Is it private equity, private credit, real estate? >> It's really all of the above. Early on, private credit was an area that was probably of greater prominence that you'd find in private wealth and also within the IRA space. Also given the tax nature, deferred tax nature of IAS, private credit actually fits in pretty well. But what we're finding today is it include it's PE, its infrastructure, it's real estate and it's private credit. >> So how about the DB channel? >> The DB channel interestingly for decades has been investing in the private markets. By the way, just as quick background within DB, there are really two different types of DB. There are public DB and then corporate DB. public think of governments like state pension plans or city or local municipalities and then corporate DB think of companies offering defined benefit plans. Both of them have historically had very significant allocations to private markets north of 30%. Within the public space that continues to be the case public DB plans are heavily allocated to equity beta equity type of risk north of 30% in public market public market equities north of 30% in private market allocations. Corporate DB used to look that way but over the last 20 years more and more of the assets in DB plans from corporates are getting allocated to fixed income. Now about 20 years ago, there was some accounting changes which gave companies a really strong incentive to start moving more assets to liability hedge. And so that's why you probably see north of 50 to 60% in fixed income, but still 20 plus% in alternatives and private markets. >> So that leaves the DC plan. Where are we today? The DC market asset allocation has been in my mind one of the most interesting evolutions that I've ever seen in the marketplace. Their DC plans have been around for a century. But the reality is given some changes in regulation and legislation, DC plans were really created in the early 80s. And back then there were investment lineup options that were public equity funds, public fixed income funds, something called stable value, which we can, by the way, spend an hour on. But the reality is they're really just a conservative, principally protected type of investment. But what was also interesting was back in the 80s and 90s, companies would provide a a 401k match using company stock. And so by the end of the '9s, more than 25% of all DC assets were in company stock. Now, interestingly enough, if you, you know, go to 2001, 2002, 2003, there were some pretty meaningful defaults. And so there was legislation that made it much easier for plan participants to diversify out of their company stock. And by the way, many 401k plan sponsors, virtually all of them stopped matching contributions in company stock and rather matched in cash. And so you saw a really meaningful change in an allocation away from those company stock ownership. And it's around that time that the creation of target risk and then target date funds emerged. And so just to give you a little bit more background. So these target risk and target date essentially it enables the plan participant to outsource that portfolio construction to an asset manager. And so if you look at where we are today, roughly 40% of all DC assets are in some type of investment solution, whether it's a off-the-shelf target date fund, a custom target date fund, or some sort of managed account. If you look at the DC assets today, what's the mix of traditional stock bond and alts? >> There is very little money in DC today that's in alternatives or private markets. Small amounts um very bespoke plans, but virtually the all of the allocations today are sitting in public markets. So when you hear the numbers like there's 12 12 trillion dollars in these DC assets and it's all coming all it takes is 1% or 2% or 5% then it's going to be hundreds of billions of dollars. How does it work? So if you break down the DC category into the different target date funds, custom target date funds and the the different investment options that an employee could pursue. How do you get from here to there? There is a really good reason to believe that over time we're going to see a really meaningful allocation to private markets in DC. But you're right to ask the question of how is it going to happen. So I would point to two different sort of things that have to happen. There are some structural things which we can talk about as it relates to daily pricing and navs and the way these things are set up in terms of liquidity. But then, and you're getting to this, is how do people actually access the target date funds? And by the way, I should mention north of 60% of all new flows in DC are going into target date funds. It's really important part of the market. The way to think about these investment solutions are there's really three ways that you can get exposure to a professionally managed or investment solution. The first is offthe-shelf target date funds. So think of in a 401k a corporation wanting to offer a 401k plan. Most corporations will go they'll find a recordkeeper to administer the plan and then they will select an investment lineup and that investment lineup is are in funds or CITs which is just a different type of vehicle that incorporates and is managed by a asset manager and that is the majority today of target date fund exposure and investment solution exposure. So there's $4.5 trillion in these investment solutions. Three and a half are in these off-the-shelf custom target dates. So for alternatives to be incorporated into those, you would look to the asset managers. The second category are custom target date funds. So there are companies, large companies that don't pick offtheshelf funds, but they actually create their own. They create their own investment glide paths. And these companies, by the way, there are some really big ones like Boeing and Ford and Intel, IBM, many of them had DB plans and they had built investment teams around them. And so it was natural for them when they were building out their their DC plans for them to create custom target dates using multimmanager, best-in-class managers. And so that's another way plan participants can get access to these target date strategies or experiences. The third way is through managed accounts. So most 401k platforms they have their investment lineup but then they also have an option for participants to get a managed account and those managed accounts are customized based upon the individual and either it's a financial advisor that's customizing those exposures or it's a financial engine where a plan participant will provide a certain set of information about who they are and their investment goals objectives and then they will get a generated custom management account for them. So those are the three ways that individuals get exposure to target date. Now each of them have a very different way that you can actually then get alternatives embedded in them. >> You start with the offtheshelf target date funds that are in the hands of an asset manager. What asset managers are involved in that space? There are really six managers that dominate the market. Probably have 85 plus percent of the assets. That's Vanguard, Fidelity, Black Rockck, State Street, Tro, and Capital Group. And so they have a really important strategic decision on how they want to think about incorporating alternatives. One really important piece of information which is really helpful to have which will inform their decision-making processes is how they originally sold those off-the-shelf custom target date. If you think about the decision-making process for most companies that choose off-the-shelf target date funds, the individuals that making that are making those decisions are either someone from their finance teams or someone from their human resources teams. They're not professional investors and it's not their full-time job to actually administer the 401k plan and pick and do manager selection, manager due diligence. And historically, the single most important factor in picking a target date fund lineup or fees. And so that's one of the reasons why you see the majority of target date funds today are in passive very lowcost strategies, right? And as a matter of fact, there was really an incentive for plan sponsors to pick the low fee option because in the DC market, 401k market, there's a lot of litigation risk. And so there was a view that by picking the lowest cost, it would potentially shield you from some potential litigation that you would could have from plan participants. >> So in that segment of offtheshelf target date funds, how do you move off of that and get into a higher fee alternative? There are two potential options. One is you could have these asset managers use their existing target date funds and add alternatives to them. I personally think that's highly unlikely. And as a matter of fact, as you talk in the industry, it's pretty apparent that that's not the avenue. And and part of the reason why is is if you're a company and you've made a decision to invest in a certain investment strategy that had a certain expo risk exposures, certain um fees, it's hard to imagine that someone is going to unilaterally change that strategy without you know you opining on I mean, imagine um you know, imagine you were uh subscribing to CA a cable company, right? And you looked at all the different cable company providers that may cover your house and you looked at all the different packages and you said, "You know what? I just want the lowest basic package, right?" You know, it's unlikely that that cable company is going to be able to go to you and say, "Hey, Ted, I've got great news for you. I'm adding all of these great channels, but I'm going to really increase your fees." It's probably not going to work, right? You may not want all those channels. You may be happy with the fees you're paying. What's much more likely is that asset managers that offer these off-the-shelf target date strategies are creating new target date funds that incorporate private markets. Now, what will have to happen then is the asset managers through intermediaries and advisors will have to engage with all those corporate plan sponsors and have a conversation with them says, "Hey, you have this target date fund. Would you consider are you interested in having a second target date fund on your platform? Here are all the benefits of incorporating private markets into a target date fund and a glide path. Would you like to add one? Would you like to take your existing one and map it to a new one? The challenge will be if you wanted to incorporate more alter alternatives into these. If you add a new series of target date funds, but also keep the existing target date ones, you likely won't see a ton of movement into those new target date funds. Now, that might be different if you make the target date funds with alternatives your QDIA, meaning the default option. What's more likely is we'll see a faster move if you take your existing target date fund series and map it to a new one where you take all plan participants and you move them automatically into a new target date strategy which does happen and again over time as more and more companies understand the value and the benefit of incorporating private markets into a glide path we'll likely see that it's easy to see why that switch could be challenging there's There's also the question of flows. So there's a certain amount of money in the ground. What does that picture look like of the money that's coming in to the DC world each year and then the money that's going out? So there is a tremendous amount of new money going into the DC space. But we also have to acknowledge that there's actually a fair amount of money coming out each year as well. And think about it, it's coming out in two different ways. One is because people are retiring and they need to draw on their savings to support their spending. But as people change roles, change jobs, it does also create pivot points for them to roll money out of their 401k into a rollover IRA. So while there is a huge dollars going in, there's a meaningful amount of those dollars that is ending back up in IAS that are professionally managed by wealth platforms and financial adviserss. If you go to the next group, the custom target date funds and the managed accounts, how does that decision process work? >> Yeah, that is where we would expect to see much faster adoption curve. So in again custom target date, you have professional investors at these companies that have created multi-manager best-in-class target date strategies. By the way, many of them use investment consultants, the same ones that, by the way, they use potentially for their DB assets. They're very familiar with private markets. We at KKR work with a lot of those plan sponsors and have conversations with them all the time about their DB assets. So, it's super easy and natural for them to start thinking about, okay, I can incorporate these into the DC glide path as well. Also, keep in mind that these professional investors, they understand the value of private markets. They understand the value of net of fee returns. And so again, it's a lot easier to envision that that happens sooner. >> So you've alluded to these two challenges of liquidity and daily pricing, which are not things that are typically characteristic particularly of private equity. How do you incorporate those needs into an investment in one of those strategies? So the 401k market and broadly DC market have all been built on a chassis that's really created for public markets and daily pricing and daily liquidity. And so today not all but most 401k plans enable participants to allocate dollars every whether it's by week by by monthly or at the end of each month and the plans can accept them and invest them right away. It also gives plant participants the ability to reallocate or change their allocation and even withdraw on some sort of more periodic basis than just month end. Maybe it's daily, maybe it's weekly. And so we all know that private markets are not daily liquid. However, there is the ability to incorporate private markets into target date funds where the funds can manage the liquidity. maybe they have a liquidity sleeve and so you can still have private markets in a target date fund and offer the ability for investors to invest or withdraw. So there is a solve there. The bigger challenge which again as an industry we can overcome is you still need to be able to mark these strategies on a daily basis. Right? If if people are going to invest in a target date fund on a daily basis or redeem, even if you're not changing the underlying allocation to private markets, you still have to transact at a nav. But we as an industry have actually already made progress, right? Historically, private markets were marked on a quarterly basis. Now, with the advent of evergreen wealth vehicles, they're marked on a monthly basis. And in fact, some private credit is actually marked on a daily basis. So, either one of two things have to happen. either the chassis in 401k needs to change and you restrict transactions to a monthly basis. What's more likely is we over time as an industry work on daily pricing all of the various different private markets. >> What is the one thing that you've found that most people misunderstand about what's happening now with this money in the private markets? Most people don't understand the decision-making processes around how a target date fund gets on a platform and how the evolution and change would happen. And so most people will say, "Oh, you know, this is great. All of a sudden, all the target date money is just going to drop an allocation to private markets." And the reality is there's structural reasons why that just are real barriers that have to be overcome. And so that's why like I don't see this as a massive revolution. I see this as a normal natural evolution as these alternatives become available as legislation changes. But it is going to take you know one by one engaging with plan sponsors to make them understand the value of incorporating private markets understanding the value that you're receiving on a net basis. And I think the industry doesn't fully embrace and understand the decision-making process to get there. Where is this already happening and where might it never happen? So in the managed account world, it's already happening and that's where you have most oftentimes recordkeepers that are administrating a a 401k have a managed account platform right adjacent and there they're already starting to add alternative private market options, evergreen wealth vehicles onto those platforms and starting to incorporate them into the financial engines and then many of the financial adviserss are already familiar with it. So that's where it's happening very quickly. By the way, there's another area that is evolving which is there are new plans or called PEPs or pulled employer plans which is an alternative to a 401k. So plan sponsors instead of administrating their own 401k they can actually outsource it to either an investment consultant or an RAIA it's already happening there within custom target date. It's just starting to happen and the conversations are just emerging with many of those plan sponsors off the shelf. It's really early days because again the decision maker is not a professional investor necessarily. It's and it's not somebody's full-time day job but there are whole teams of advisors and um professionals that are engaging and cover these clients. It's just going to take the education process is going to take time and that's also where legislation and government can make a difference. So we saw the executive order. We just recently saw the DO put out a statement regarding potentially incorporating private markets into some type of potential safe harbor where again if you're a plan sponsor and you have a qualified default investment option that incorporates private markets it's safe harbor meaning you're you know it's an acceptable prudent investment. So if you add up the various decision-m processes that have to work through some of the obstacles, some of the logistical challenges when people think of, oh, there's 40 trillion or there's 13 trillion in in DC plans and if only 10% of it's in the private markets, there's a $1.3 trillion coming in. How do you take those crazy large numbers and distill it to what you think may actually happen? maybe over the next say 5 years. >> It's not an if, it's really a when. Like there's no doubt in my mind in a decade from now we will see very meaningful allocations within that DC market to private markets. Whether it's 10% 15% it's going to be really really big. I would say over the next 3 to 5 years the offtheshelf is going to take the longest time to get adoption to move. But in the meantime, you're going to see a lot of allocations through managed accounts and custom target date. And so, you know, it will be a hockey stick, but it's not going to be a hockey stick in the next couple of months or couple of quarters. It really is going to take years for this to play out. But you know if you go and you and you think about that northstar of what the benefit of private markets is into a longer data longer horizon investment pool it's it's again that leads to really not if but really when over the next few years are there meaningful differences in the adoption of different called subasset classes within private markets >> what's likely is if you look at managed accounts I think there isn't I think there you're going to see adoption of all of the different private markets because they're all going to be available on platforms and again you have a financial advisor or financial engine that's allocating within custom target date my hunch is is that they'll probably start with private credit partially because it's there are solutions that are daily priced and part of it is because if you think about it it does have because of the nature of having distributions it does provide liquidity so it's a little easier potentially to manage. So I think within that custom space you'll probably start with private credit but I think relatively quickly within custom you'll see it move across PE infra and real estate as well. How do you think about the impact of all of these dollars coming in? And you could take take a broader brush of say private equity. You go way back and valuations were a lot cheaper and rates were on a long-term decline. And now you clearly have a tougher, more competitive environment. What will it take in terms of the production of returns from the industry to continue that momentum as the money starts to come in to the to the retirement market? >> Yeah. I look as we've talked about in the past, you know, more and more companies are staying private for longer and as a result, the opportunity set for private markets and private equity is growing substantially. Now I will always caution that there in this part of the market manager really matters and so you know the difference between a top quartile manager and a fourth quartile manager could be a couple thousand basis points and so you know what I would tell you is is that there's a lot of alpha opportunities within the private market space and as more capital comes into this part of the market I think the markets will continue to grow as as this becomes a really attractive and source of capital. >> Eric, thanks so much for sharing your insight and getting a little bit deeper understanding of how all this works. >> Well, Ted, thanks so much. Really appreciate the opportunity. [Music]