There is an interesting contradiction in 401(k) retirement plan investment lineups. Most existing 401(k) plans meet a minimum standard of investment options to provide diversification for their employees to choose from.
The question has come up: how many funds are too much? How complex do we want this investment lineup or the enrollment process to get?
On one hand, investment committees have been encouraged to accept a prudent “one-size fits all” solution with a QDIA – a Qualified Default Investment Alternative. Defaulting employees into a single-solution, like a Target Date Retirement fund or a Target Risk retirement fund should be simple enough to attract the largest number of employees into the plan. Alternatively, a typically diverse set of investment options can be tailored into age-based retirement models which offer a similarly attractive “fire and forget” solution for investment plan committees. With basic participant modeling (usually based on age), a target date or target risk model or QDIA series is usually sufficient to protect the committee from a breach of fiduciary. In this argument, simplicity trumps everything else given how busy and unengaged a typical employee is towards their retirement needs.
There is another school of thought and another corresponding solution: managed accounts. To explain, a managed Account is a model portfolio where investment choices are offloaded to professionally managed models and then customized based on that specific employee’s unique needs and financial circumstances. For example, two unrelated employees - John Smith and Jane Doe – are 50 years old and they both plan to retire in 17 years. A QDIA based approach might select a Target Date 2030 fund for each of them. However, a brief interview with Jane Doe determines that she has millions of dollars of fixed income investments elsewhere, so maybe she could afford to take a more aggressive stance than John. Alternatively, imagine that Jane has millions of dollars custodied elsewhere, but those assets are specifically in international equities; Jane’s managed account might include a greater proportion of US debt and equity to compensate for her high international investments.
A managed account is a premium service designed to be customized. The goal isn’t merely to provide enough of a solution to prevent a fiduciary breach of duty, but to provide optimal solutions tailored for each employee. There is a clear upside for engaged participants, willing to go through the process, who may benefit from flexibility. On the other hand, who most benefits from these processes? Answer: the most engaged participants do. The most engaged participants are most likely to utilize professional financial advisors to adjust their retirement strategies. Then again, if engaged employees can influence their peers and raise the standard of plan, then it should be considered a viable solution, worth the extra expense in time and dollars.
In short, there are pros and cons to either approach. Knowing the unique attitudes of your employees is key to determining which solution best fits your retirement plan.