Too many investment options hurt participation
Too much choice is not always a good thingat least for
401(k) investment options. Offering employees lots of
investment choices in a 401(k) plan actually leads to lower
participation, according to a study by Columbia
University's Sheena Iyengar in cooperation with The
Vanguard Center for Retirement Research. The research finds
that, on average, every additional 10 investment choices
cuts participation rates by 2%.
"The chance of a worker participating in a savings plan
declines as the number of funds increases," says a paper on
the research issued by Vanguard in June. "For example, an
employee with 5 funds in his or her plan has a predicted
participation rate of 72%, while one with 35 funds in the
plan has a predicted participation rate of 67.5%."
The role of choice in American life has, for several
years, intrigued Iyengar, an assistant professor of
management at Columbia Business School. She has examined
its impact in contexts ranging from selecting jam at a
grocery store to picking potential suitors at a
speed-dating event. She recently talked with PLANSPONSOR's
Judy Ward about her research on 401(k)s.
PS: How did you get interested
in studying the role of choice in 401(k)s?
Iyengar: It was a pretty natural question that emerged.
After you look at the effects of too many choices about
jams or chocolates, jams and chocolates are fairly trivial
decisions that do not have very heavy consequences
associated with making a suboptimal choice. However, this
is a context where you could imagine that you would be
heavily invested in making an optimal choice.
PS: When did you start
studying 401(k) plans?
Iyengar: In 1997, the last year Vanguard asked me if I
would be willing to analyze a data set. There are 647
different firms in the data setthey range anywhere from
about 30 employees to about 30,000 employeesand it has
plans that offer anywhere from two to 60 options.
It is a large-enough sample that we can actually look at
it in a more systematic manner. People could obviously say,
"Even if you get an effect, how do you know it is not just
because there is an industry effect going on? Or how do you
know it is not because the companies are offering pension
plans or other types of savings plans? Or how do you know
that it is not a function of salary or things like that?"
It is because the actual sample size is 100,000 people in
647 firms, so it allows us to control for a lot of
different variables that ordinarily you would not be able
to control for. We got the data in the fall, and have been
analyzing it since.
PS: What are your key findings
Iyengar: People, if they have more options, are actually
less likely to invest. A sort of complementary finding to
that is that, among those people who do choose to invest,
and the options are increasing, they are more likely to
invest in company stock.
Iyengar: It is a familiar option. If you do not know
where to invest, you kind of feel like you know more about
your own company.
PS: What is the ideal number
of options to get the most participation?
Iyengar: Once you get close to 10, it stops
PS: Why does more choice lead
to lower participation?
Iyengar: In the case of 401(k)s, it is not all that easy
to get advice within your firm. A lot of companies probably
are worried about being liable if people make the wrong
choices. I suppose you could spend the energy going out and
seeking private brokers or something to help you with it,
but most people probably are not going to put in that
effort. So, it becomes easier to delay making the choice
than to make the choice. I think they are just scared or
nervous. They do not know how to go about actually
choosing, and they really do not want to make the wrong
PS: What can employers do to
Iyengar: A number of things. You could go the default
route. [Two academics at the University of Chicago] have
just come out with a paper on "libertarian paternalism"
suggesting that people be given a good default [portfolio]
option that did not really require them to do a whole lot
of thinking or research. If they were given a good default,
I imagine that people would consider it fairly reasonable,
rational, and logical to actually invest in their
You could offer some kind of investment consultant
within the organization, or you could actually not offer
that many options: At the companies only offering two
options, participation rates were about 75%. The other
thing you could do is offer people a small number of
options, and those people who really care about lots of
choices would pay a little extra to get more options. If
you were forced to pay for extra options, you might be more
willing to actually look into those options that you have
paid for, do your homework on them.