Should Hedge Funds Be Kept Out Of 401(k) Accounts?

The Department of Labor just published a “fiduciary duty” rule which applies to 401(k) and retirement accounts. The intent of the rule is to make the retirement savings of Mom and Pop investors safer. Brokers will no longer be able to easily load up clients’ retirement accounts with high risk securities, like hedge funds.

The new fiduciary rule is a clear win for investors. The regulation requires that brokers enter a contract with clients confirming that they will look out for  the client’s best interest — or disclose when they can’t .The rule should boost investors’ ability to bring claims over bad advice.

Surprisingly, many pension trustees and financial advisors have allocated a portion of their portfolios to risky hedge funds.

Pension funds have routinely invested money in hedge funds as a way of reducing risk. But recent poor performance of hedge funds, along with high fees, has changed the minds of pension fund managers.

Indeed, New York City’s largest public pension plan this month said it was exiting all hedge fund investments. It was “the latest sign that the $4 trillion public pension sector is losing patience with these often secretive portfolios at a time of poor performance and high fees,” according to a recent report from Reuters.

“The board of the New York City Employees Retirement System voted to leave blue chip firms such as Brevan Howard and D.E. Shaw after their consultants said they can reach their targeted investment returns with less risky funds,” according to Reuters.

“Hedges have underperformed, costing us millions,” said a New York pension official. “Let them sell their summer homes and jets, and return those fees to investors.”

The move by New York follows similar actions by large public pension plans in California and Illinois.

Along with the increasing reluctance of pension officials to invest with the high risk hedges, the new fiduciary duty rule should give advisors pause before putting speculative hedge fund investments in retirees’ portfolios.

One court case, in particular, highlights the problem.

“A former Intel Corp. employee is suing officials at the Santa Clara, Calif.-based company for allegedly breaching their fiduciary responsibilities by investing defined contribution participants’ retirement money in ‘risky and high-cost’ hedge funds and private equity funds,” according to trade newspaper Pensions & Investments.

The lawsuit, which was filed Thursday in October in federal court in San Jose, Calif., “alleges 401(k) and profit-sharing participants who were invested in Intel’s custom target-date series and global diversified fund lost hundreds of millions of dollars on underlying hedge funds and private equity investments.”

It’s simple, these investments, under the DOL’s new fiduciary rule, should be off limits in 401(k) retirement accounts and employee plans.

Zamansky LLC are investment and stock fraud attorneys representing investors in federal and state litigation and arbitration against financial institutions.