Table of Contents | Published in April 1999

The role of the planner in the pension marketplace

The intermediary factor

By Charles Ruffel | April 1999

The intermediary factor

Common wisdom once had it that financial planners would play less and less of a role in the pensions marketplace, as plan sponsors and vendors increasingly began to interact directly. In fact, the growing complexity and choice in the defined contribution marketplace has had quite the opposite effect: financial planners with DC expertise are carving out an ever-growing role, most notably in the small to mid-sized plan arena. Two such financial planners, Sheldon Schumaker, managing director of PruneYard Financial Group (affiliated with D.E. Frey & Co.), based in Campbell, California, and Romaine Macomb, of Essex, CT-based John W Rafal & Associates (affiliated with Raymond James Financial), discussed how they add value in the DC arena with three executives from American Skandia, one of the nation's leading financial services organizations: Christian Thwaites, senior vice president; Kimberly Anderson-Bradshaw, vice president and national sales manager, qualified plans; and P. Cosmo Smith, program manager, qualified plans. The interview was chaired by Charles Ruffel, editor-in-chief of Plan Sponsor.

PS: At one stage, it looked as if financial advisors would be disintermediated in the defined contribution marketplace. Instead they have become more important, and visible, than ever before. Why?

Schumaker: Firms like ours bring two strengths to the table. We're advisors to both the plan and the participants. As far as the plan sponsor is concerned, the choices they face when it comes to their DC plan are difficult and complex ones. Whether they are grappling with investment policy, fund selection, monitoring that selection, or whatever, they are struggling to meet their objectives in a cost-effective fashion. They need an independent resource to do that, and we are that resource.

PS: Do you need to be brought in at the outset of a new plan?

Schumaker: We come in anywhere the client needs it, and our range of clients spans small start-ups to much larger plans. Sometimes we're brought in at the very beginning, sometimes we're brought in when there's a problem, and sometimes we're brought in because a plan sponsor senses that their provider is no longer giving adequate service. We come in as consultants and fix the problem. We see ourselves as a quarterback--we're not the provider, we're not the recordkeeper, we're the advisor.

Smith: The market today seems to recognize the value of having such a quarterback. There are some plans, perhaps particularly in the large plan arena, where plan sponsors don't feel they need advisors. But generally, the larger complexes that are directly selling into the small- and mid-sized arena are unable to deliver the kind of support and personalized attention that is now being demanded.

PS: What sort of tools and skills do you need to be a financial advisor in the DC arena?

Schumaker: Obviously, you need experience with and understanding of the whole range of problems that a plan sponsor faces when creating or fine-tuning a plan. However, that doesn't mean you have to be an actuary or an ERISA lawyer--the key role, again, is that of a quarterback, so you can access specialist outside expertise if and when the client requires it. For some clients, we act as an extension of their HR department: others want less in the way of HR and more in the way of financial expertise. We have to be able to do both, and in a disinterested way.

Macomb: As a consultant, you have to be able to deliver what the client wants. For instance, as participants began to demand education, they found they couldn't get their questions answered by some person in a call center. So they began to knock on the door of the company's HR person, where they couldn't get any answers either. In the scenario now unfolding in corporate America, there needs to be someone who provides the hands-on education, who meets with the employees, who holds the enrollment meetings, and who answers employee questions, ultimately educates them.

PS: Is it true to say that the full-service vendors acting alone can't be that resource, or at least not effectively?

Smith: In general, I think it is fair to say that the industry has under-served employees as far as education goes. They've delivered tools, they've delivered something of a process, and then they've left participants to make asset allocation decisions and ultimately fund selections. In the final analysis, that hasn't cut it. Participants need personal financial planning, and, in most cases, they need access to a financial planner to do that effectively. And this is not just for highly-compensated individuals. We're talking about real money for real people who have real problems to solve. They need to look beyond their 401(k) into a system that can integrate their entire financial status. Why does this industry see high participation rates but pitifully low deferral rates? It's because people aren't being properly advised. So above and beyond what the planner can do for the plan sponsor in the quarterback role, they can also deliver the up-close, in-person attention that employees are just not getting now and so desperately need.

Thwaites: In addition, using an advisor allows a plan sponsor to deal with the same person for the duration that initially shaped the plan. By contrast, the direct salesperson who sold you the package may never be heard from again. The advisor provides a level of service that is extremely vital to plan sponsors and their employees.

PS: As financial advisors, one of the challenges you must face is deciding where your primary expertise lies--in assisting the plan sponsor in plan choice and design, or in educating participants?

Macomb: Of course, the two areas are connected, since it is of primary importance to a plan sponsor that participants are properly educated. That said, you have to be in a position to fulfill both tasks if you're going to service the DC arena as a financial advisor. You need to totally understand the ins and outs of the business, plan design, what asset managers are offering, and so on. Indeed, it is a commitment, but you can do both.

PS: What happens at the end of the equation when somebody with $400,000 in their 401(k) plan retires? Presumably the provider would like that to flow automatically into some vehicle it has created, but from your standpoint there might be better advice to give than that.

Schumaker: That's one reason why the good financial advisor has to be totally free from bias. We're not controlled by anybody, and certainly not by our providers. What's best for the client is what's important.

PS: Of course, what's best for the participant is not always crystal clear. But it now seems generally accepted that plan sponsors have some fiduciary responsibilities in ensuring an educated participant base.

Smith: There's certainly a fiduciary liability around employee education and providing the right kind of guidance--not only within the framework of a plan but even within the framework of an individual's entire financial planning. And as the complexity of fund choice grows and asset balances surge, the fiduciary issues themselves become more complex.

Macomb: Certainly, we're now finding employers are extremely concerned about their employees' education, and aware of the fiduciary issues they may face in this regard. That's often where we come in. Employers are looking for someone independent who can oversee the education process, from the moment an employee joins the firm to the moment he or she leaves, in a completely independent way.

Anderson-Bradshaw: And that independence allows them to put together the best possible team for the plan sponsor--investment management, education, administration. And the plan sponsor doesn't have to oversee every detail. American Skandia only sells into the DC arena through intermediaries, and it's because this relationship paradigm works so well.

Schumaker: In fact, having a financial advisor in the picture is actually--from a time constraint viewpoint--of real benefit to the provider as well, because it stops them from having to be the resource the plan sponsor goes to every time there is a question. Instead, we become that resource, and that's a role we are in fact better suited to play.

PS: Let's say I'm a plan sponsor at a small plan who has an existing bundled provider and it's not working, and I learn about this breed of specialists who focus on 401(k) plans. How do you explain to such a prospect that bringing you into the picture is not going to bring a totally different cost structure to bear on the plan, a cost that the plan sponsor will have to bear?

Schumaker: Cost is never the first issue I address. You first need to find out what the problem is, if there is one, or what the plan is trying to achieve. If they are used to a 1-800-NO SERVICE type of vendor, you have to take them along a new path before you even talk about cost. And there are instances when we have changed a plan completely and ended up saving the plan money--sometimes, when you look at what the total cost is for the plan now and what the total cost will be when our changes are made, clients will actually save money, increase performance, increase communication, meet 404(c), have an investment policy that they've never had before, and actually save dollars--real dollars. And let's face it, no incumbent provider will see it as in their interest to suggest ways to make a client less profitable for them.

Macomb: And because of that, there are a lot of plans where we can reduce the total cost by adding more value.

PS: There are tens of thousands of financial advisors, but how widespread is DC expertise in that community?

Thwaites: Not widespread at all--demand certainly outstrips supply at this point. At American Skandia, we have over 40,000 brokers across 1,000 broker/dealers that we work with and perhaps 10% of them have sold a 401(k) plan, and some of that 10% have stumbled into the business through their own customer connections as opposed to by design. There's a very small number--certainly in the single digits--concentrating on this niche, and that's because it's a huge investment in terms of building up a knowledge base. It's not just about investing: you need, for example, to know recordkeeping and administration. And the paybacks are not immediate.

PS: From your vantage point, what are the notable trends in the 401(k) marketplace?

Schumaker: Fund choice is the most noticeable: plans, large and small, are no longer content with funds from a single family. Also, people don't want to hear things, they want to look at things. The internet is clearly the solution there.

Anderson-Bradshaw: To the extent a provider can deliver a solution which offers access to top managers across asset classes, they are assured a unique position. Providers have tended toward offering access to outside funds, but few do this without some bias for proprietary selections. Most do so on a conditional basis.

Thwaites: Yes. Similar to the defined benefit model, American Skandia selects managers based on performance and style consistency. These choices are all from different investment companies, and provide an initial, unbiased lineup for advisors and their plan sponsor clients to include in their plan

PS: How close are we to a situation where a small plan can access that level of technology and choice?

Schumaker: We're there right now.

Thwaites: There's very little difference in expectation between a start-up plan for 50 high-tech, postgraduate employees and a 1000-life plan, and why should there be? There's now a minimum requirement in the industry, and that minimum increasingly includes services like internet access. You can't segment the 401(k) market by size and not provide services like internet access to any element of it anymore.

PS: Of course, some bundled providers do exactly that.

Thwaites: Yes, some do, but they're going against the trend. The trend we see is acknowledging an era of customer clout, where small plans can get pretty much all they want if they, or their financial advisor, knows what's out there. They can get an array of funds, they can get daily valuation, they can get high-tech service.

Schumaker: However, nothing is for free, and the perception that you can get these products and services for free has done a tremendous disservice to the industry and to the plan sponsor.

PS: Let's start making the issue of fees more transparent. How should a plan sponsor be thinking about paying for a 401(k) plan?

Schumaker: There are a couple of ways. First, a plan sponsor can regard the DC plan entirely as an employee benefit, and pick up the whole tab. High-tech companies that are very benefits-oriented often take this path. Then there are companies prepared to pay for a share of the costs, but when it comes to added fees for various bells and whistles, they pass that on to participants.

Thwaites: That fee sharing is happening more and more, we find. One way that's done is the funds in a plan have a wrap fee which is an asset-based charge expressed as a basis point charge or a dollar amount. That is directly debited on a daily basis, just like expenses are debited from a mutual fund on a daily basis, from the employee accounts. On top of that, a recordkeeper or plan administrator may charge another per participant fee. Overall, the trend we see is that plan sponsors are increasingly unwilling to pay for what they get. And a direct employee debit seems to be gaining popularity.

Macomb: One of the issues we are faced with is how best to educate plan sponsors about what they need to pay for. They need to understand that running a DC fund is a lot more complex than mailing your check off and hoping your employees are doing the right thing. Some things need to be paid for, and part of our job is to explain the value behind certain fees.

PS: Whether it is about cost or service, a financial advisor presumably has leverage with a vendor that an individual plan sponsor does not.

Schumaker: Absolutely. Partly it's because we have multiple relationships with vendors, and partly because we have taken the time and effort to understand various vendors and come to terms with their strengths and weaknesses.

PS: One of the criticisms of defined benefit consultants was that they had favorite asset management firms, and their clients would always get steered towards those particular vendors, sometimes without rhyme or reason. Can that criticism be made of the DC intermediary?

Schumaker: Some advisors have developed a widespread knowledge of the industry, and should be able to find the right vendor for each particular client. When I go into a meeting with a plan sponsor for the first time, I have no idea what would be the best vendor for that client.

Macomb: When it comes to those brokers pushing proprietary product, they can't really even pretend to be acting as consultants. They know before their first meeting what they are going to sell.

Anderson-Bradshaw: That's why there are so few true players: not only do you have to really understand the twists and turns of the 401(k) business, but you have to be able to pick and choose the best provider to suit a client's particular needs.

PS: And yet the irony is that the 401(k) plan is at the absolute center of American savings, now and going forward. So it's where all the action will be.

Schumaker: Perhaps, but for a financial advisor it's a big commitment. And if it's a small plan or a start-up plan, no one makes any money for two to four years, depending on the plan. There are a lot of brokers who aren't interested in that long term a commitment.

PS: Regarding the long term, do you believe that there are liabilities, fiduciary and otherwise, attached to 401(k) plans that are yet to be played out in the market?

Thwaites: I think the 401(k) is a ticking time bomb. Companies were only too glad to move away from defined benefit plans, and the net result is that the 401(k) plan has become the primary savings vehicle by default and not by choice. And it operates under a set of rules, ERISA primarily, that were designed for the era of defined benefit, when advice to participants was not an issue. So you now have the absurd situation where the employee is begging for advice, the regulators are prohibiting the plan sponsor from giving it, and the fund companies are by and large comfortable with that advice not being given. The fact is there's not enough money in most peoples' 401(k) funds, and when the baby boomers retire and find this out, there will be real problems.

Schumaker: Certainly, too many people now are inappropriately invested. Many go without the right level of diversification.

PS: The remarkable thing, if you try and look at this issue with some sort of perspective, is that the 401(k) business has been allowed to develop to this extraordinary size without effectively obliging participants to come to terms with any sort of intelligent investing process.

Schumaker: That's correct. They make investment changes based on no real facts and no real information. That's changing slowly, but it's not changing fast enough. This is why we emphasize education so much.

For additional information, please contact:
Kimberly Anderson-Bradshaw
Vice President
National Sales Manager
Qualified Plans
tel: 203.925.3884
fax: 203.925.6971

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