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Plan managers must perform annual reviews of investment options, but many don’t even realize their offerings include alternative investments.


Plan Managers Responsible for Due Diligence on Alternative Investments

  • 1/23/2015

A growing number of retirement plans are investing in alternative investments because they often provide lower volatility and higher returns compared to traditional funds. Surprisingly, some plan sponsors don’t realize they are involved in alternatives, and they are not performing their due diligence prior to offering these investments or properly reviewing these options annually.

What qualifies as an alternative investment?

An alternative investment is anything other than cash, bonds, stocks, and mutual funds with a quoted market price. The most common types are private equity funds, hedge funds, common collective trusts, and pooled separate accounts; however, sometimes it is hard to distinguish these investments from regular mutual funds. For example, insurance companies are unable to hold mutual funds, so it may appear that you are invested in a mutual fund, when in fact you are invested in a pooled separate account.

Before entering into an alternative investment product, plan management or your investment advisor should perform initial due diligence on the investment option. If an advisor performs this due diligence, it should be presented to the investment committee or plan management as part of the approval process. Because the plan management is responsible for performing this due diligence, this review and approval should be documented.

Recommendations for plan management

As with all investments, plan managers have the fiduciary responsibility to perform annual reviews of investment options to ensure they are performing according to their investment policy. Alternative investments should go through this same evaluation process on an annual basis; however, we recommend an expanded review for these options. Procedures include:

  • Holding regular meetings with the investment firm’s management team
  • Performing an annual on-site visit
  • Reviewing fund communications, such as quarterly shareholder letters
  • Reviewing the audited financial statements of the fund
  • Reviewing a SOC 1 (service organization controls) report, if available

In addition, plan sponsors need to be aware of the liquidity constraints of alternative investments. Often, they can only be liquidated quarterly or annually. This timing can be complicated if distributions need to be funded.

How we can help

Before considering alternative investments, plan managers should understand the due diligence procedures recommended for these funds as well as the requirements for annual reviews.