Mega alternatives firms like Apollo, Ares seek a slice of $11 trillion U.S. DC plans

Mega brand-name alternative investment managers are exploring partnerships with traditional money managers that could be their way into the more than $11 trillion global defined contribution market.

While these partnerships, like one signed by KKR and Capital Group in May, aim to break into the mass retail investor market and offer public-private markets investments, there is room to grow.

KKR’s partnership with Capital Group does not initially involve supplying products for defined contribution plans, spokeswoman Kristi Huller said. But she added, “the partnership will evolve over time.”

The partnership will offer hybrid public-private investments across asset classes, geographies and channels, starting with credit.

“We're excited about the future of this collaboration,” said KKR CEO Scott C. Nuttall during the firm’s July 31 earnings call. Capital Group will manage the liquid credit portion, while KKR will manage the private credit portion in sectors including direct lending and asset-based finance, he said. KKR had $601 billion in AUM as of June 30.

Capital Group oversees $2.6 trillion in assets under management. As of Dec. 31, Capital Group had $552 billion in U.S. institutional, tax-exempt defined contribution AUM, Pensions & Investments’ data shows.

Private equity managers have longed argued that private assets have a place in defined contribution plans’ investment option lineups.

“We believe that providing hardworking Americans expanded access to the private markets helps them diversify their 401(k) portfolios and helps strengthen retirement security for millions of Main Street investors,” according to a statement from the American Investment Council, a private market managers trade group.

Regulations

Regulations appeared to be moving in their direction.

In December 2021, the Biden administration kept in place Trump-era Department of Labor guidance that confirmed plan fiduciaries can offer certain private equity strategies in diversified investment options, such as target-date, target-risk or balanced funds, while complying with ERISA.

However, regulators urge caution.

In a December 2021 news release, Ali Khawar, principal deputy assistant secretary for the Labor Department's Employee Benefits Security Administration, cautioned “fiduciaries, especially in small plans, against marketing efforts that may misrepresent the information letter as a U.S. Department of Labor endorsement or recommendation of these (private equity) investments for 401(k) plans."

The alternatives industry needs more legal and regulatory clarity to ensure that a prudent fiduciary can offer private market investments as part of a diversified, public-private strategy.

During earnings calls and other presentations, Marc Rowan, a co-founder and CEO of Apollo Global Management, made clear that the firm has set its sights on investing for the defined contribution markets.

“The opportunity now exists for an entire next generation of products to serve retirees, whether they are in the traditional insurance sector or they are in the vast pool of 401(k), which heretofore has been off-limits to most alternative assets providers,” Rowan said during Apollo’s second-quarter earnings call on Aug. 1.

During the same call, Scott Kleinman, Apollo co-president, said executives are in a number of conversations around partnerships between the firm and traditional money managers.

“Our role can and will take on multiple forms, ranging from joint ventures to parts provider,” Kleinman said.

Rowan explained that “parts providers" means that Apollo could supply the private markets portion of investment options offered by traditional managers.

“I think you will see lots of partnerships this year” between alternative investment managers and traditional managers, said Rowan.

“Active management, traditionally defined, has had a relatively tough decade. It has not outperformed the broader index for a very substantial portion of time,” Rowan said.

Traditional managers are acknowledging that with shrinking public markets, investors need to invest in private markets for their portfolios to reflect corporate reality.

In his annual letter posted in April, Jamie Dimon, chairman and CEO of J.P. Morgan Chase & Co., noted that there are 4,300 U.S. public companies, compared with a peak of 7,300 U.S. public companies in 1996.

"The total should have grown dramatically, not shrunk," Dimon said.

"Meanwhile, the number of private U.S. companies backed by private equity firms ... has grown" to 11,200 from 1,900 over the last 20 years, he said.

Hurdles

However, there are hurdles that alternative investment managers need to overcome including liquidity, higher fees and daily valuations, industry insiders say.

In February, during Apollo’s first-quarter earnings call, Rowan said that 401(k) plan participants “need returns the most, and we force them to be daily liquid.” Most 401(k) plan are set up to provide daily liquidity so investors can move money in and out.

Speaking in May at the at the Bernstein 40th Annual Strategic Decisions Conference, Rowan mentioned target-date-funds as a place for alternative investment strategies. He said that alternatives are already moving into 401(k) plans but “in small size.”

“But is that a good or bad thing for our industry? ... It is one more source of demand for private assets,” Rowan said.

Ares executives are preparing to take advantage of the opportunity.

During Ares Management’s second-quarter earnings call on Aug. 2, Michael Arougheti, a co-founder, CEO and president, said the firm has “dedicated teams and efforts underway here to make sure that our product is ready for that (401(k)) market when it opens ... I think some of those logical channel partners are open and hoping to see the DC market open to privates and alternatives."

Target-date funds are one way private markets assets may be added to defined contribution plans, but Arougheti said there are some “legal and regulatory headwinds to those markets opening up as quickly as maybe we all would like them to be.”

When the defined contribution markets open, Ares will be ready, he said.

“But it is going to be a slow path, but one that we're cautiously optimistic will open up in due time,” Arougheti said.