Private Equity in 401(k) Target Date Funds: Lessons From Continuation Funds

Article Key Takeaways

• Continuation funds reveal a structural reality: in private equity, the general partner (GP) often benefits regardless of investor outcomes—“the house always wins.”

• Sponsor-led deals are now mainstream (up ~750% since 2016), making these dynamics increasingly relevant for plan sponsors.

• GP economics are structurally reinforced, including new fees, reset carry, extended control, and early monetization—even without a traditional exit.

• Institutional investors frequently opt out: despite deep expertise and access, 80–90% cash out rather than roll over in continuation funds.

• Even sophisticated investors struggle due to information asymmetry, compressed timelines, and the absence of a true third-party market check.

• These same structural challenges may carry into target date funds, extending private equity’s complexity to everyday retirement investors.

• Valuations and fees deserve scrutiny: estimated values may be optimistic, and multiple layers of compensation can exist beneath a single reported expense ratio.

• The core fiduciary question: are private equity’s defining features—opacity, illiquidity, and sponsor discretion—appropriate in defined contribution plans?

Full Article

In a University of Pennsylvania Law Review article, professors Kobi Kastiel and Yaron Nili offer a striking image for one of private equity's fastest-growing structures: "the GP, like the house in a casino, almost always wins."

They're describing continuation funds. These are vehicles where a private equity sponsor sells portfolio assets from a fund it manages to a new fund it also manages, rather than to a third party. The structure has grown roughly 750% since 2016, reaching $68 billion in 2021 alone, and now represents the dominant form of sponsor-led secondary transactions.

For plan sponsors weighing whether to add private equity exposure to a target date fund, the continuation fund literature is essential reading. It describes, in detail, what happens to sophisticated institutional investors who thought their relationships and expertise would protect them within private equity structures. The answer is sobering.

Data and Context

Kastiel and Nili catalog the benefits a general partner (GP) captures by initiating a continuation fund, independent of how the transaction is priced:

• Additional management fees on an asset base are typically higher than the original fund's valuation
• An option to earn additional carried interest on the same assets, years later
• The ability to reset carry hurdle rates, giving previously underperforming investments a new path to triggering 20% profit participation
• Extended control over assets beyond the traditional ten-year fund term, delaying any genuine market check on valuations
• In early-stage continuation funds, immediate crystallization of carried interest means money off the table without a real exit, and is removed from any future claw back obligation

The math is instructive. Consider a fund asset initially valued at $500 million and sold into a continuation fund for $1 billion. The new vehicle's reduced management fee of 1% per year still produces $10 million annually, the same dollar amount as the legacy fund's 2% fee on the lower base. Over the next five years, that's $50 million in fees alone.

The transaction's pricing is almost beside the point. The sponsor's compensation has been structurally separated from whether the underlying decision creates value for the original investors.

What should stop plan sponsors cold is what happens to the limited partners in these structures. Kastiel and Nili document, through interviews with market participants in 85+ transactions totaling over $60 billion, that 80–90% of the pension funds, endowments, and sovereign wealth funds with dedicated private equity teams, decades of relationships, and bargaining power that a defined contribution plan lacks, cash out rather than roll over into continuation funds. This happens not because they choose to, but because they can't, despite their resources, reliably evaluate the alternative. The reasons:

• Information asymmetry. The general partner controls the flow of information about asset performance. Limited partners frequently lack the asset-level data necessary to evaluate the transaction.
• Compressed decision windows. Limited partners typically have 10–20 business days to evaluate disclosure packages running 200+ pages, often on multiple transactions per month.
• Lack of expertise. Many institutional investors lack the staff to perform asset-level due diligence, which is precisely why they hired the general partner in the first place. The continuation fund flips that responsibility back to them.
• No market check. Unlike a traditional exit, the continuation fund's price is set by the same firm sitting on both sides of the trade.

And these are the investors who actually got a choice.

Implications for Plan Sponsors Considering Private Equity in Target Date Funds

The current push to include private equity in target date funds is being marketed as democratizing access to a superior asset class. The Kastiel and Nili research surfaces a different framing: it is democratizing exposure to structural conflicts that the most sophisticated investors in the world have not been able to manage.

Consider the gap. A PERS investment officer evaluating a continuation fund offer has direct relationships with the sponsor, sits on limited partner advisory committees, employs dedicated secondary-market specialists, and reviews bespoke transaction documentation. That officer still takes the liquidity 80–90% of the time, rather than rolling over. The 401(k) participant whose target date fund holds a 10% allocation to a private equity sleeve has none of those tools. They have a glide path, a quarterly statement, and an expense ratio.

The fiduciary question is not whether private equity has produced attractive returns in the past. It is whether the structural features that create those returns (opacity, sponsor discretion over valuations, illiquidity that suspends the market check on performance, fee economics that survive client outcomes) are appropriate inside a defined contribution plan, where participants cannot complete due diligence on individual investments, cannot exit selectively, and cannot negotiate side letters.

Three specific concerns deserve attention.

Valuation discretion. In daily-valued target date funds, the private equity sleeve will require a valuation methodology between liquidity events. Kastiel and Nili document that even at arms-length transactions, sponsor-influenced valuations are systematically biased, and recent surveys show 90%+ of continuation fund deals trade at discounts to net asset value, suggesting that even the values used to mark the books were optimistic. A target date fund that strikes a daily NAV is striking it against numbers that the sponsors themselves are discounting in transactions.

Fee architecture. The continuation fund structure shows what happens when an advisor's compensation can be served regardless of client outcomes. A target date fund holding a private equity sleeve is, by definition, paying management fees and carried interest at the underlying fund level, fund-of-funds fees if there is an intermediary structure, target date fund expenses, and platform economics to whichever recordkeeper distributes the product. The participant sees one expense ratio. The advisor economics flow in multiple directions, most of which are not visible at the plan level.

Information asymmetry, scaled down. If institutional investors with dedicated teams cannot evaluate the assets in continuation funds, what is the plan sponsor's basis for concluding that a participant, or even a plan fiduciary advised by a consultant, can evaluate the private equity sleeve inside a target date fund? The marketing materials will not include the 200-page disclosure packages that institutional LPs receive and struggle with. They will include returns, often selective and net of fees, that may not reflect the full fee stack.

Recommendations

For plan sponsors considering whether to add private equity to a target date fund, or whether to retain a target date fund that the recordkeeper or asset manager is proposing to modify in this direction, the continuation fund literature suggests three due diligence questions that get past the marketing:

1. Ask the asset manager to walk through, in writing, how the private equity sleeve will be valued daily and how those valuations will be tested against transaction prices when assets eventually trade. If the answer relies primarily on sponsor-provided valuations, you are accepting the same structural problem the institutional LP market is currently struggling with, at greater distance, and on behalf of participants who never agreed to it.
2. Identify every layer of compensation in the structure and ask which of those layers are tied to participant outcomes and which are tied to volume, allocation decisions, or sponsor activity. The continuation fund example is useful here: the management fees and crystallized carry the sponsor captures survive regardless of whether the deal benefits limited partners. The same question applies to the target date fund sleeve. If the answer is that most of the economics are decoupled from outcomes, you are looking at the same architecture, scaled down.
3. Treat the marketing claim that private equity "democratizes access" with the skepticism the institutional record warrants. The institutional limited partner community has spent the last several years documenting, through actions if not always through statements, that the structural protections inside private equity are insufficient even for them. Importing those structures into vehicles held by participants with less information, less recourse, and no ability to negotiate is not democratization. It is a distribution.

The house always wins because of how the table is built. The question for plan sponsors is whether they want to seat participants at it.

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