Administration May 1, 2019

A New Way of Thinking About Retirement ‘Plans’

Mike Sasso, with Portfolio Evaluations, and a professor at Boston University, explained a new way of thinking to get plan sponsors to focus on retirement income for participants.

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Mike Sasso, partner and co-founder of Portfolio Evaluations told attendees of the 2019 Plan Sponsor Council of America’s Annual Conference that defined contribution retirement plans are not “plans.” Rather, he said, they are savings vehicles.

He said he doesn’t think a new fiduciary safe harbor for selecting annuity providers is going to open the floodgates of plan sponsors adopting annuity options in their plans. But, plan sponsors are having conversations about the purpose of their defined contribution (DC) plans, and how to help employees establish a source of retirement income. “This is one reason more plan sponsors want employees to keep their assets in the plan after retirement,” he said. He added that offering installments as a distribution option in the DC plan is a “no-brainer” for plan sponsors.

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Dr. Zvi Bodie, the Norman and Adele Barron professor of management at Boston University, told conference attendees that in order to help participants with retirement income, plan sponsors must turn their thinking to life cycle finances. Instead of looking at wealth accumulation, the gauge should be a standard of living over a lifetime.

“An income goal is different from a wealth goal,” he said. “The risk to be addressed should be the income shortfall, not returns on investments.” He added that diversification should not be the only risk management technique in DC plans. There should be hedging—eliminating the downside by eliminating the upside—and insurance—eliminating the downside for and insuring the upside for a premium.

“We want to add to Social Security inflation-protected income for participants,” Bodie said. “Annuitization with inflation protection should be the default distribution option, with the ability to opt out.”

Bodie presented 10 key design principles for DC plan sponsors:

● Set replacement income as the goal for retirement;

● Address risks relevant to the goal: income shortfall, not return volatility;

● Deliver an asset allocation strategy to manage retirement income risk;

● Make efficient use of all dedicated retirement assets;

● Offer personalization based on one’s retirement account characteristics;

● Take account of changes in both market and personal circumstances;

● Be effective even for those who are completely unengaged;

● Supply only meaningful information and offer actionable choices to improve outlook;

● Offer robust, scalable and low cost investment strategies; and

● Offer seamless transition and payout flexibility at retirement.

Bodie compared the evaluation of the income shortfall to that of evaluating funding shortfalls in defined benefit (DB) plans. A certain replacement income in order to achieve the standard of living a participant wants in retirement is the goal, and the plan should use dynamic strategies, as DB plans use liability-driven investing (LDI), to close any shortfall and achieve the replacement income goal. “LDI in a DC plan is the funded ratio of each participant’s goal,” he said.

Bodie pointed out that target-date funds (TDFs) do not take into account the short- and long-term risks of stocks. The allocation should be adjusted over time. “TDF glide paths are pre-determined no matter what happens. That’s nuts!” Brodie exclaimed. “TDFs should be more dynamic.”

Louis Belluci, associate director of U.S. equity indices at Standard & Poor’s Dow Jones Indices, told attendees he is seeing an evolution in TDFs. “When considering the goal is retirement income, more TDF managers are considering a glidepath that moves from mostly global equities to mostly global bonds ad then at retirement switches to more secure investment vehicles, such as Treasury inflation-protected securities (TIPS),” he said. “It’s more like an LDI glidepath.”

Data and Research May 1, 2019

Wells Fargo Suggests Various Approaches to Retirement Saving

Because people are living longer, healthier lives, the Wells Fargo Investment Institute has suggested different ways that Millennials, Generation X and Baby Boomers can successfully save for retirement.

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Because people are living longer, healthier lives, they need to save enough money to last for 15 to 20 years or even longer, according to the Wells Fargo Investment Institute. Thus, it has produced a new report, “Reimagining Retirement: Generational Strategies for 21st Century Challenges,” that lays out strategies that Millennials, Generation X and Baby Boomers can take to succeed in saving enough money for retirement.

The institute notes that younger investors expect to rely more on 401(k) and individual retirement account (IRA) savings in retirement and less on pensions and Social Security than older investors. Baby Boomers think 401(k)s/IRAs will supply 25% of their income in retirement, Social Security 38% and pensions, 19%. By comparison, Gen Xers say 401(k)s/IRAs will comprise 39% of that pie, Social Security 25% and pensions 15%. Millennials say the makeup is 46% 401(k)s/IRAs, 15% Social Security and 8% pensions.

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A Wells Fargo survey found that 60% of Americans think they will have enough money to last throughout their retirement. However, 40% think they will have to work longer and/or lower their cost of living in order to get by.

The institute notes that developed economies have relatively generous benefits for retirees, but aging populations are challenging the systems designed to support them. The U.S. spends relatively less (7.1%) on retirees as a percentage of gross domestic product than Japan (10.2%) and European countries such as Germany (10.1%).

Furthermore, while the average life expectancy in the U.S. in 1900 was 46 for a man and 48 for a woman, today those figures are 77 and 81, respectively. With the average age of retirement between 63 and 64, that means that people must save enough to last for 15 to 20 years, and women are particularly challenged as they live longer and earn less than men.

Sixty-three percent of men make saving for retirement a financial priority, compared to 51% of men. Men have an average of $100,000 saved for retirement, compared to $37,000 for women. Only 25% of men are unsure of what their monthly expenses will be in retirement, but this jumps to 34% among women.

Different Approaches

Having laid out the challenges, the institute then offers different strategies that various generational groups can take to approach retirement savings.

Many Boomers may find themselves working in retirement, the institute says. In 2016, the percentage of the workforce age 65 and older was 19.3%. This is projected to rise to 21.8% by 2026. It also suggests that they delay taking Social Security benefits until they turn 70 and purchase immediate and deferred annuities that offer tax-deferred growth and guaranteed income.

The institute also suggests that Boomers consider moving to a lower-cost state or country, obtain health insurance, maintain a higher allocation in equities and rent out an extra room in their house.

Generation X is the first cohort to have access to 401(k) plans for most of their working years. A big challenge for this generation is that they may have found themselves making trade-offs between the needs of their parents, their children and their own retirement—and may have shortchanged themselves.

While Gen Xers are less confident about retirement (59%) than all workers (72%), the institute says, they still have time to grow their savings. For this generation, it suggests they create a budget and stick to it in order to juggle their many responsibilities. Furthermore, the institute says they should balance expenses with saving for retirement, consider life or disability insurance, save aggressively, take advantage of company matches and catch-up contributions, diversify their portfolio across domestic and international markets, rebalance their portfolio regularly and have an emergency fund that will cover six to 18 months of living expenses.

Millennials will bear the responsibility of saving for retirement with less assistance than previous generations, but they appear to be rising to the challenge. Wells Fargo learned that they started saving for retirement at age 24—a full decade earlier than Boomers. Furthermore, 30% save 10% or more of their pay.

However, because many Millennials entered the workforce at the time of the 2008 Great Recession, 20% say they will never invest in the stock market, and 30% are taking a conservative approach to retirement saving. Wells Fargo thinks this could hurt Millennials’ long-term prospects.

Thus, the institute encourages Millennials to take advantage of automatic enrollment and company matches, keep their retirement savings when switching jobs rather than cash out, consider a Roth 401(k), start saving as early as possible, balance repayment of student loans with retirement savings, avoid investing too conservatively and remember to maintain global diversification.

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