Attached is an article we found interesting (“The New Mix”). It describes how many plan sponsors are redesigning their plans to provide a more manageable and appropriate menu of investment options. The changes are based upon research that shows that offering too many investment options can actually stymie employee choice and hinder plan participation. The article also states that many plan sponsors are adding lifecycle funds, such as target retirement date funds for their participants. According to research cited in the article, 45% of employees invest in lifecycle funds when they’re available.
According to the article, experts have long recommended that employers pare back retirement plan offerings to just 10 or 12 fund choices. Also, studies have shown that employees often find a wide array of choices so daunting that they opt to do nothing. According to the Profit Sharing 401(k) Council, the average number of funds offered by companies remains too high at 18. Even though many plan sponsors have the perception that more is better, the data shows that having too many options leads to poor participation.
Depending on the demographics of the employee base, employers may decide to add a few (and just a few) specialized choices to their core offerings. Companies should not offer too many eclectic or trendy choices, because they often fail to perform well in retirement plans, which can have time horizons as long as 40 years. Specialty funds, such as real estate investment trust (REIT) funds, can be especially problematic for employees who are unsophisticated investors and who may place a significant percentage of their total plan account balance in the REIT or other specialty fund.
Even though a lifecycle fund, such as a target retirement date fund, can simplify an employee’s investment decisions, participant education is still necessary. For example, while some plan participants may want to allocate some of their investment dollars to a target retirement date fund and spread the rest around, the blended nature of a target retirement date fund may cause an employee to end up overexposed to certain parts of the market. Employers should therefore encourage participants to either put all of their 401(k) dollars into a lifecycle fund or avoid the category entirely. In other words, this should be an all-or-nothing proposition.
Some employees will also mistakenly choose multiple target retirement date funds such as a 2020 fund, a 2030 fund, and a 2040 fund, in the mistaken belief that doing so is similar to choosing a mix of stock and bond funds and will thus yield better diversification. This is another indicator that education is necessary.
Roger J. Rovell
President
