Investors in the Dark About Investment Fees
The born-on-the-web RIA firm, Rebalance IRA, recently produced a report, the title of which identifies their core finding, “Nearly Half of Americans Surveyed Falsely Think They Pay Zero Retirement Investment Fees.” The study found that when asked what they pay in retirement account fees, 46% believed that they do not pay any fees at all. A further 19% suggest that their fees are less than 0.5%. Only 4% of those surveyed believe they pay more than 2% in retirement account fees.
Professor Burton Malkiel, a member of the Rebalance IRA’s Investment Advisory Board and author of the investment classic, A Random Walk Down Wall Street, stated in the report that, “fee obfuscation has been around as long as there have been fees, and this survey is proof that the industry is still winning the battle.”
The report also cast a critical eye on the recent fee disclosure rules, given the continued “great deal of confusion [that exists] among consumers.”
Relevance to DC Investors
In the retail investment world – in which investors must make their own investment choices from literally thousands of options – it is important that investors seek to educate themselves on how they should best go about improving their own retirement outcomes. However, being a successful investor is hardly a straightforward process and, consequently, most investors turn to an outside source of help such as an investment advisor (in person or virtually). As it relates to investor knowledge, DC plans carry all the same requirements as retail investing with the added complexity that comes from being imbedded in a qualified plan structure.
Self-directed DC plans are more complicated for the individual investor primarily due to the fact that the DC plan sponsor is deciding on the core fund lineup, not the DC participant. In choosing these investment options, the plan sponsor along with their investment advisor, must run a maze of potential pricing structures and decide among the various cost/services tradeoffs. Essentially, it is the plan sponsor who must ultimately determine how rich the level of services will be as well as how costs for these services are to be allocated.
Plan assets and participant size drives plan sponsors’ bartering power with DC providers. Plan sponsors do leverage their size, as is evident in the steady decrease in record keeping and investment costs as plans become larger. Different expense levels mean something different among various size employers. Also, plan sponsors vary a great deal on how they allocate expenses -- paid by the company, paid by the participant, paid out of “revenue sharing” or, as is often the case, some combination of all three methods.
This is all to say that, even if most DC participants understand how much money they are spending on plan services (e.g., money management), it is not clear that this would be useful information as it relates to their ability to judge if they are getting a square deal or not.
A DC plan benefit offering to an employee is, essentially, a compensation transaction between an employer and employee. It is the responsibility of the employee to analyze the richness of the benefit, which is measured by plan features, with the matching level being the most prominent. It is the responsibility of the employer to create a benefit offering that is competitive in their industry. In the case of DC plans, it is important that all the employer's decisions be informed, prudent and made with the participant’s best interest in mind.
Even if one were to take the position that, regardless of the plan offering, investment fees should always be low in any size plan, where does that leave the participant? Should all participants consider that any investment charge over and above the cost of an index to represent a compounded cost that drags down future retirement income? This seems to be the implicit message behind the lowest cost (at all costs) investment narrative.
There is the old story of the man looking for a silver dollar under a streetlight. He is asked about what he is looking for and where he thinks he lost it. “Out there," he says, pointing out into the surrounding darkness. "Then why are you looking for it here?" "Because the light is better," the man says.
The investment fund expense ratio is the most visible, identifiable aspect of a plan offering and the easiest to compare against other benchmarks. Consequently, that is where the most light shines and a great deal of focus is brought to bear. The real issue, however, is how a host of plan design, service and investment features interact to improve or worsen investor outcomes.
There is little question that DC investors should be given full disclosure of all the fees for the assortment of services they and their plan receive. But what an employee should do with this information is unclear. First, how do they know if the costs are too high? And second, if they think the fees are too high, what should they do? What can they do? Complain to the HR department -- that's about it.
On the other hand, if a plan sponsor has acted in a manner that has violated its fiduciary obligation, then a different situation exists. Enter the plaintiff’s bar and class action lawsuits and DOL investigations to rectify the matter.
The class action lawsuit phase of the DC market cycle continues to wind down, however, as there are fewer plan sponsors to target. The next phase of the market cycle will be largely focused on helping plan sponsors become increasingly knowledgeable so that they become smarter consumers of DC services.