Evaluating DC Plan Options? Challenge the Conventional Wisdom
It’s been a couple of months since DC plan sponsors received DOL-mandated fee disclosure statements from their service providers, and participants have had a few weeks to review — or ignore — the fee and performance benchmark information shared with them. And while one potential outcome is more attention to fund options, the fact is plan sponsors have already been active, with nearly two-thirds of 401(k) plans changing their investment offerings in 2011, up from just 19% in 2009 (11th Annual 401(k) Benchmarking Survey, 2011. Deloitte/International Foundation of Employee Benefit Plans/International Society of Certified Employee Benefit Specialists). Many may be motivated by the view that certain investment options are a panacea for fulfilling fiduciary responsibilities, and fee disclosures are likely to accelerate this trend. But changing a plan’s investment lineup should be managed strategically. I believe two perceived remedies need to be reconsidered.
1. Assuming Low Cost Is Always Best
As participants become aware of — and concerned about — fund expenses, more plan sponsors may be driven to offer low cost, passively managed funds. But choosing funds solely on the basis of cost limits the universe of options and may not be the best solution for participants. In actively managed funds, the skill of the portfolio manager and the style of portfolio management can help to generate alpha — excess returns relative to the fund’s benchmark. Portfolio managers who exhibit high levels of active management and make high conviction investment decisions have an opportunity to generate returns that exceed — rather than simply mimic — the performance of an index. And even just incremental returns over a 20+ year savings career can potentially fuel many additional years of retirement income (OppenheimerFunds analysis, 2012).
2. Relying on a Plan Provider’s Target Date Funds
Target date funds also offer a level of comfort to plan sponsors. Yet, after exercising great diligence in crafting the plan’s fund lineup, many settle for target date funds offered by their plan provider — without conducting proper due diligence. These funds can be notoriously difficult to benchmark and compare given the inconsistencies of underlying investments and glide paths. A better approach may be an open architecture, custom target date portfolio that uses the funds in the plan. This helps ensure that the target date portfolio’s underlying funds were selected with the same rigor as the other investment options and can be removed and replaced as needed.
DC plan sponsors should employ a disciplined and strategic approach to selecting and monitoring the plan’s investment options, creating a fund lineup that helps to alleviate liability and fiduciary concerns while providing plan participants with the best opportunities for growth.
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