Even the best foundations and endowments, with unlimited resources and first choice of best performing funds, have a hard time selecting alternatives that outperform a 60/40 portfolio of stocks and bonds. The leftovers that will be trickled down to Main Street will be the dredges of the industry. Look no further to what mom and pop investors are offered in the hedge fund space.     

Do we really need equal access to expensive and likely underperforming alternative Investments sold to unwitting and unsophisticated sheep just waiting to be shorn? 

NK: I would rephrase your question: How paternalistic should America be with investors? We can probably agree that some regulation is necessary. Requiring full and honest disclosure when companies, funds or financial firms solicit investment is a good idea given the financial incentive to obfuscate and spin yarns. So are rigorous licensing requirements for investment professionals.  

But singling out ordinary investors for exclusion from certain segments of financial markets makes little sense. There are lots of ways ordinary investors can hurt themselves financially, such as trading penny stocks or purchasing high-priced mutual funds. No one argues that those should be off limits.

Also, like private assets, hedge funds are limited to accredited investors, and yet a growing number of mutual funds and exchange-traded funds offer hedge-fund strategies to everyone. Those strategies are far more complicated than typical stock or bond funds, and no less complicated than private investments. Here again, no one seems concerned that ordinary investors are in too deep.  

Nor is it evident that ordinary investors need special protection. Just because an investment is dangled in front of them doesn’t mean they’ll bite. Ordinary investors are increasingly turning to low-cost, buy-and-hold investment products, as evidenced by the great migration to index funds. So they’re perfectly capable of making smart financial decisions when given the opportunity.

Meanwhile, as you point out, so-called sophisticated investors do lots of foolish things, including paying outrageous fees to roll the dice on hedge funds and private-asset funds, many of which disappoint. Perhaps they can learn something from ordinary investors.   

There’s a simple solution to this mess: Any investment that is permitted to some should be permitted to all. 

BR: Nations, states and cities permit only selective access for all manner of things that if people were left to their own devices would do themselves great harm. I don’t mean licensing for doctors or manicurists, but if you want to drive a car you need to pass a test before obtaining a license. Drive a motorcycle? All of that plus you have to take a safety course. As a society, we do not allow unfettered access to behaviors that put the individual or the taxpayer at high risk.

The exception is, of course, where there is a buck to be made. State-run lotteries, revenue producing casinos and, of course, the thwarted Fiduciary Rule are examples where the best interest of the individual is sacrificed on the altar of corporate profitability and/or state tax revenues. It took decades after the health risks of smoking were well understood before the government did anything, because tobacco taxes created a financial incentive that skewed regulations.

Which brings us to private equity: We understand it is illiquid, less transparent, has different - read “dubious” — accounting rules and carries higher risk than the traditional target date fund or 60/40 portfolio. The real question is what purpose would it serve in a 401(k) or other retirement account?

The answer seems to be it will generate more fees for the private equity private equity industry. That alone is not a good reason to allow them into investor retirement accounts. What I am looking for is a better reason we should allow investors to embrace additional risk, lack of transparency and expense beyond “because wealthy institutions are doing it.”