Finding the Right Default

Our sister brand, PLANADVISER, held its national conference this week in Orlando. As part of one panel, a group of experts discussed the evolution of qualified default investment alternatives (QDIAs) and considerations for plan sponsors when making the decision between managed accounts, target-date funds (TDFs) and balanced funds.

The 2006 Pension Protection Act (PPA) ushered in use of QDIAs with a new safe harbor, said Jason Johnson, senior vice president of wealth management, UBS Financial Services, moderating the panel. “Many employers recognize that their employees don’t have retirement plans in place,” he said.

Asset-allocation models and QDIAs allow sponsors to place participants in the plan with a safe harbor. Still, to get that safe harbor, plan sponsors must meet several conditions, including participant notification, allowing participants to opt out of the default fund and broad diversification on the investment menu.

Key challenges for employers, said Scott Wittman, chief investment officer (CIO), asset allocation and disciplined equity at American Century Investments, are the myriad risks to balance when saving for retirement. Putting everything into stable value or money markets might eliminate market risk, but this strategy can make longevity risk skyrocket.

One enormous change that took place with the move from defined benefit (DB) to defined contribution (DC), Wittman said, was all-professional decisionmaking. “In DC plans, the ultimate decisionmaker is the participant,” he noted. “The best designed plan in the world is not going to meet its goals if the participants can’t use it effectively.” Downside risk and excessive volatility both challenge participants’ judgement, Wittman added.

Glide path construction can help manage risk, said Benjamin Richer, director asset strategies, portfolio manager, Nationwide Funds Group. His group combines the three approaches—conservative, moderate and aggressive—into one glide path: more aggressive in the further-dated funds for younger participants. “In the middle of the glide path, we take a more moderate approach,” he explained, “and as the participant nears retirement, we’re more conservative than the market.”

NEXT: Customization could be the answer—but is it worth it?

The one-size-fits-all approach may not work much longer, said Brad Thompson, chief investment officer at Stadion Money Management. “We’re telling 35-year-olds now how to manage their money,” he said, “but going forward, they’re going to be telling us how to manage their money.” The rise of smartphone usage and Millennial attitudes indicate that plan participants will pay more attention to their accounts, and he believes Millennials will want custom solutions.

Another drawback to a single approach: Participants tend to set it and forget it. “So they don’t increase their participation rates,” Thompson explained. “That’s where managed accounts are starting to gain momentum, but target-date funds are getting most of the assets.” Implementing the customization and personalization features that Millennials want makes the funds attractive and can help get younger participants to enroll in the plan—and stay there.

Before going down the customized solution route, Wittman said, ask three questions:

• What are the plan demographics? Most 25-year-olds have relatively small assets and their goals are similar. Participants in their 60s can have a range of goals, and assets tend to be more substantial.
• Do you have enough information to customize? He cautions that customizing at the plan level is not useful.
• Is customization worth the additional cost? “The focus on fees is intense,” he emphasizes. “It’s hard for plan sponsors to justify additional 20 basis points [bps] to get a customized solution.”

An increasing number of plan sponsors are interested in re-enrollment, Wittman said. The health of the plan, raising the participation rate and getting people engaged are all very important—and re-enrollment, a close cousin of automatic enrollment, is key.

True, added Wittman, many plan sponsors are afraid of negative pushback from participants—a concern he called legitimate but generally unfounded. Employees are most often very accepting, and auto-enrollment dramatically improves plan health. “One plan sponsor was concerned but did the re-enrollment of 1,500 participants anyway,” he said. “Exactly nine people called, six of whom wanted to know their PIN number.”