Advice in DC Plans: Is It Working?
By Ray Martin, EA, CFP®, CEBS
With more and more plan sponsors adopting advice programs and the April 2009 introduction of new investment advice legislation by Congressman Robert Andrews (D-NJ), it is more important than ever to be able to answer the question whether investment advice programs can help defined contribution (DC) plan participants save for financial security in retirement.
I submit that they can, and that we can measure the benefits objectively.
Of course I’m talking about effective advice programs – those that are objective and free from conflicts; have meaningful fiduciary protection; charge reasonable fees; are both personalized and integrated with other pertinent information sources; deliver services through a variety of media; and offer the services of expertly trained investment advisors.
Do plan participants need investment advice?
Is there reason to believe that participants need advice, or are they doing fine on their own? Unfortunately, there is widespread evidence that participants all too often make poor retirement investment decisions. Data show that too many participants are saving too little, making inefficient investment allocations and inappropriate risk decisions, and trying to time the market. For example1:
- The percentage of workers very confident about having enough money for a comfortable retirement decreased sharply, from 27% in 2007 to 13 percent in 2009
- 28 percent of workers say the age at which they expect to retire has changed in the past year. Of those, 89% say that they have postponed retirement with the intention of increasing their financial security
- 53% of workers report that the total value of their household savings and investments, excluding the value of their primary residences and any defined benefit plans, is less than $25,000; 20% say they have less than $1,000 in savings
- Only 44% of workers have tried to calculate how much money they will need to save for retirement – 44% of whom guessed or made their own estimates
Do plan participants use investment advice when it’s available?
Given the record of poor decision-making by plan participants, is it realistic to believe that they will seek and act on objective investment advice when it is available to them? Participant behavior during the recent market volatility offers compelling evidence that they will. In our experience2 during October 2008, Advisor Call Center volume surged to 160 percent of average. And we see demand strengthening again as of March 2009, as people see early indicators of possible market recovery. During the same time periods many self-directed participants, the victims of uncertainty and inertia, either attempted to rush to safety or rode out the volatility until extreme conditions took hold. For example, in November 2008, 83% of monthly cash flows moved from various equity funds to GIC/Stable Value3.
Does investment advice make a difference for plan participants?
When effective, objective investment advice is available to participants and when they act on it, is there a positive result? Our experience4 has shown that participants using advice and managed account services save more than their plan peers and maintain diversified investment allocations suitable for their retirement time horizons.
For example:
• 99.9% of managed account members are maintained in diversified and risk-adjusted portfolios
• When self-directed participants enroll in managed accounts, the projected increase in expected annual performance is approximately 113 basis points (net of fees)
• When managed account members increase their savings rates, they do so at nearly twice the level of self-directed plan participants
• The savings rate of managed account members is 7% compared to 5% for self-directed participants
1EBRI Issue Brief No. 328. April 2009. www.ebri.org.
2ING Retirement Services.
3Hewitt 401(k) Index, November 2008.
42008 Financial Engines National 401(k) Evaluation and February 2009 ING Advisor Service Monthly Usage Report.
Also in our experience5 , the investment performance of managed accounts compares favorably with the performance of lifecyle funds:
5Performance figures for the Member Portfolios reflect asset weighted estimated performance (net of all fees) across all members in plans that had the requisite data. Sponsors were included in a monthly calculation as soon as they met the data requirements. The returns shown include the following number of sponsors for each month: 2 for July 2005, 4 for August and September 2005, 5 for October through December 2005, 9 for January 2006, 12 for February 2006, 15 for March 2006, 20 for April 2006, 24 for May 2006, 26 for June 2006, 31 for July 2006, 33 for August 2006, 35 for September 2006, 36 for October 2006, 38 for November 2006, 41 for December 2006, 42 for January 2007, 44 for February 2007, 46 for March 2007, 52 for April 2007, 55 for May 2007, 57 for June 2007, 58 for July 2007, 59 for August 2007, 62 for September 2007, 66 for October 2007, 72 for November 2007, 76 for December 2007, 79 for January 2008, 87 for February 2008, 91 for March 2008, 99 for April 2008, 107 for May 2008, 111 for June 2008, 116 for July 2008, 121 for August 2008, 124 for September 2008, and 142 for December 2008. Member portfolios do not include results of all program members in the reported plans. The Member Portfolios do include all members retiring in a specified target year, plus/minus one year regardless of personalization. (For example, the Member Portfolio 2010 includes members retiring in years 2009, 2010, and 2011). Results for members that cancelled out of the program are not included within the period that includes time of cancellation. Daily participant contribution and withdrawal data may not be available. Member Portfolio performance estimated by attributing the reported performance of the underlying plan account assets to applicable plan accounts based on balances available at the end of each prior month. The lifecycle composite benchmark is an average weighted performance of the lifecycle funds of Fidelity, Vanguard, T. Rowe Price, Principal Investments, and Barclays. For some target years, a fund family did not offer a specific target horizon fund – in those cases the return was interpolated using the returns of the existing lifecycle funds. The performance data shown represents estimated past performance for the number of sponsors indicated, in accordance with the Member Portfolio inclusion criteria. Historical performance, particularly short-term performance, is no guarantee of future returns. The lifecycle composite is provided as a benchmark, but is not illustrative of any particular investment. An investment cannot be made in the benchmark.
Can we make advice even more effective for participants?
Advice is an ongoing process, and we can always do better – serving more participants and providing more assistance.
We can help more new and existing participants to overcome inertia with more “automatics,” including automatic enrollment, managed savings and suitable qualified default investment alternatives (QDIAs). And we can increase the scope of advisory services by accepting and implementing advice and managed accounts to create a “tipping point;” by integrating advice with managed savings programs; by deepening the integration of advice and plan account recordkeeping; and by extending into retirement with income solutions.
What’s a prudent sponsor to do?
What are the fiduciary protections for sponsors that want to make advice available to plan participants? Existing protections include:
• U.S. Dept of Labor supports investment advice -- SunAmerica Advisory Opinion (2001-09A)
• ERISA investment manager §3(38) protections for managed account service -- §402 (c)(3)and §405(d)(1) fiduciary relief from liability
• QDIA safe harbor protection under §404(c)(5):
- For auto-enrolled participants
- For participants asked to make a “re-election” or “re-direction”
- QDIA coverage for company stock
• Financial Services Agreement (per terms of agreement) that includes fiduciary status
To ensure that an effective advice program helps to manage fiduciary concerns, plan sponsors should look for these features:
• Experienced investment advisors
• Personalized service delivered through a variety of media
• Compliant with Department of Labor (DOL) Advisory Opinion 2001-09A; advice recommendations provided by an independent financial expert
• Reasonable fees within institutional pricing guidelines
• Provider is the fiduciary and investment advisor for the advisory services; assumes contractual responsibility for the advice program; assumes liability for the advice recommendations
• Fully integrated with plan recordkeeping and pertinent benefits information
By working with a service provider that offers such a program and by maintaining a focus on transparency, reliability, and track record, sponsors can adopt and provide an investment advice program that effectively serves their participants now and for the future.
Ray Martin is president and CEO of ING Investment Advisors, LLC. 09IAS-06-008
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