You might be tempted by an ­opportunity to invest in young, fast-growing companies long before they go public. Earlier this year, the Labor Department approved the inclusion of such “private equity” ­investments in 401(k) and retirement plans. Investors can invest in them indirectly through target-date, balanced or similar funds offered by the plans, and no more than 15% of total assets held by any of those funds can be in private ­equity. Over the past decade through the first quarter of 2020, US private-equity funds averaged a 13.1% annual return after fees versus 10.5% for the S&P 500 Index, according to Cambridge Associates. And the super-performing stocks Facebook, Netflix and Tesla all were funded in part with private-equity money before they ­issued stock to the public.

As tempting as private equity might seem, most small investors should steer clear. Here’s why…

Uncertain performance figures. Unlike stocks traded on a major exchange, there is no simple way to determine the value of an investment in a private company until the company goes public or is sold. 

Money lock-ups. Private-equity funds often have strict limitations on when investors can cash out shares. Lock-up periods typically last five years or more.

Exorbitant expenses. Private-equity funds typically take 20% of any profits each year in addition to a 2% annual expense ratio, which can hurt the performance of a target-date or balanced fund holding private equity.

What to do: If you are investing in a target-date or balanced fund, ask your plan sponsor whether the fund has exposure to private equity, which could significantly increase volatility and uncertainty about the fund’s performance. Consider shifting to a fund that does not invest in private equity or a more conservative target-date fund, such as one with an earlier target date. 

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