Brokerage Windows in 401k Plans: Get Off the Beach!!!

Linked below is a really nice Op-Ed on Brokerage Accounts as pertains to using in 401(k) Plans. Really like the analogy regarding foolish people on a beach during Hurricane Sandy.  The author does a nice job of explaining the issue in a non-technical way.  Enjoy.

http://www.employeefiduciary.com/brokerage-windows-in-401k-plans/

Employer Investment Decisions: Any Affect on Performance?

In a recent article from the Center for Retirement Research at Boston College, the authors further validated what is commonly accepted as fact in the 401(k) industry: participants routinely chase performance and subsequently underperform most basic investment strategies (buy and hold and 1/N rule, for example).  Nothing really new here, but good to know that prevailing thought is once again substantiated.   

More importantly, the article explored investment decisions made at the plan level, seemingly by the Plan Administrator, which offered a different perspective on the “investment decisions” debate.  In their research on plan level investment decisions, the authors focused on plan fund performance versus comparable indexes/randomly selected funds (in the same asset class), as well as whether or not fund additions and replacements added value.  The results mirror the same outcome we typically observe at the participant level: like their employees, employers do not improve investment performance through their fund selection and retention decisions.  For specific details of the study’s results, see the entire article here: How Do Employers' 401(k) Mutual Fund Selections Affect Performance?                 

It’s fair to say that when monitoring potential investments, fiduciaries are confronted with an overwhelming amount of information and are often faced with the burden of interpreting conflicting statistics.  One idea that has been gaining traction for employers is to outsource (i.e., allocate) specific duties to others such as a discretionary investment manager or a discretionary corporate trustee.  Discretionary corporate trustees, as independent fiduciaries, relieve the employer of making investment decisions.  Further, they provide their clients with a systematic method for selecting, monitoring and replacing plan investments if needed. 

The Passive vs. Active Debate

Earlier this month, the good folks at Knowledge Wharton published an article on their website entitled 'If Index Funds Perform Better, Why Are Actively Managed Funds More Popular?', linked here --> http://knowledge.wharton.upenn.edu/article.cfm?articleid=2702

While, we at this blog, don't have a strong opinion on the passive vs. active debate, the article does go through a somewhat balanced excercise of the pros and cons of each. That said, while it touches upon this a little in the beginning of the article, I don't think they are giving enough credit to one very important reason why Active management outsells passive to the degree it does.

In this author's opinion, the real reason is the distribution system. Having spent quite a few years employed to distribute actively managed mutual funds, I can tell you first hand that the distribution machine to sell active management is huge and filled with very effective sales professionals. Despite the quantitative data put forth in the article, active management will continue to outsell passive as long as they build in distribution fees (12b-1s) to pay the distributors.....registered reps.

Either way, I think the article is a good read. Thanks Wharton.

Dynamic Asset Allocation Strategies

Dynamic Asset Allocation strategies are very useful policies for defined benefit plans. What does this type of policy entail? Well, it means that the investment manager is actively looking at a defined benefit plan’s actuarial valuation and using that information to then develop an independent measure of funding status in the interim, on a quarterly basis – an analysis uncommon in an industry focused on capturing alpha or liability driven investing alone.

Funded status is the primary driver of the plan’s allocation within the plan’s Risk Category (or fixed range of allowed equity exposure). This process allows the investment manager to swiftly take action whenever market conditions change through tactical adjustments to the plan’s allocation. This should be fully defined in the IPS and reported in the Fiduciary Monitoring Report; as such, it eliminates the need to obtain approval at the committee level for a change in the plan’s investment strategy every time market conditions drastically change versus the parameters prescribed in the plan’s IPS. The process is documented and anticipates a prudent course of action ahead of these changing market conditions. The focus stays on the funded status of the plan and not simply capturing investment performance.

This is an important approach when investing in a liability driven environment such as the retirement market. Our clients are widely diversified demographically speaking, and present us with a variety of goals that they hope to accomplish within a very real and finite period of time. It's usually less time than is necessary. By focusing on the anticipated liability of a pool of assets (such as defined benefit assets) or individual participant accounts, it is much easier to implement a strategy that either helps the client achieve their goals, or at least, helps them narrow the gap between where they currently are and where they wish to be in the future. Dynamic asset allocation strategies and managed participant accounts not only assist the client with determining where they currently are with regard to meeting their goals, but they vastly improves the probability of reaching their goals, as well. It's compelling evidence for a client, and a service provider, to know that an actual solution is being provided.