The paper, “What’s on the Investment Menu? A Recipe for a Better DC Design,” discusses the investment objectives and philosophies of various plan sponsors. According to Lew Minsky, executive director of DCIIA, “While all plan sponsors are striving to provide their participants with the best opportunity to reach a dignified retirement, there is no right or standard approach to achieve this objective.” What each plan sponsor needs to do, said Minsky, is determine their philosophy for running the plan and then establish objectives that align with this philosophy.
Go It Alone or Ask for Help?
But to achieve an investment menu that works for their plan and participants, is it enough for plan sponsors to simply follow a checklist of objectives or should they bring in outside help?
According to John Galateria, managing director with J.P. Morgan Asset Management and head of Defined Contribution Investment Solutions, the answer is both. Galateria told PLANSPONSOR: “There is definitely value to having an objective third party to come into an investment committee. These committees consist of people from different areas of the company (finance, benefits, human resources) and their ‘day job’ is not necessarily that of being an investment expert. Having someone come in from the outside allows them to bridge the gap between these different factions.
“There is also value in going through a checklist before contacting an investment provider and making sure you know ahead of time what objectives you want your plan’s investments to achieve. For example, how do you want to define market risk? In terms of preserving capital? Outliving your assets? The impact of inflation? You need to have investment committee members come together and put together their objectives and/or mission statement for investments first,” he added.
Seth Masters, CIO of Asset Allocation for AllianceBernstein and one of the white paper authors, agrees with this combination approach, telling PLANSPONSOR, “It depends on the plan. Some have experienced, sophisticated staff who are familiar with the issues and want to handle things themselves. Others may want to engage a consultant to partially or fully deal with the issues.”
Participants All Invest Differently
The white paper established that all participants have their own investment priorities and strategies, and thus all invest differently. However, the research found that there were three broad participant behavior profiles that could help in design an investment menu. These three profiles include:
- Do It for Me – For participants who would like a professional to guide them;
- Do It with Me – For participants who want to understand their plan and the risk of investments, and appreciate advice on this; and
- Do It Myself – For participants who want to design, implement and monitor their own investment strategies.
“This ‘do it for me’ group, or delegators, make up about 80% of investors. They have no interest in becoming involved in investment decisions. They’re looking for investments, such as target-date funds, that are easy to deal with and requirement little involvement on their part. Their mind set is not based on either socio-economic standing or investment experience. The ‘do it with me’ group makes up about 15% of investors. And the last 5%, the ‘do it myself’ group, are the ones who probably read the financial press and willing to make bets on investments,” Galateria said.
Masters sees a similar breakdown. “It comes across very clearly that two-thirds of investors are of the ‘accidental’ or ‘do it for me’ type. They haven’t thought about investment decisions before and they aren’t comfortable about it. These people will on the one hand brag about what a good driver they are, but will readily admit they make poor choices about investments. The investors that are usually active and engaged can become 'do it for me' investors if they can be convinced that someone else can do it better than themselves. The smallest group is usually the 'do it myself' one, the investor that reads the business publications and always wants to be at the controls."
Achieving the Ideal Investment Menu
Galateria said inertia can create a challenge for achieving the “ideal” investment menu. He explained that, in the past, DC plans included only a few investments, mostly institutional ones. Then there was a move to mutual funds—the more choices the better. “But the challenge around having all those choices was that sometimes they caused confusion among participants. So in some cases, plans are offering fewer investment options now. When before they would have 25 choices, now they have 15,” he said.
“However, you still need to worry about the small group of ‘do it myself’ participants who want many options. To deal with this type of situation, many plans are now offering broad asset classes or ‘buckets’ for investments—such as stocks, bonds and cash—so that those who want more options can investment in the more-specific investments under each asset class,” Galateria noted. "Overall, participants are looking for diversification and less risk and/or volatility with their investments."
Masters believes that the definition of an "ideal" investment menu is situational. "It depends on the plan's objectives. Some plans focus on self-directed choices, offering participants many options. Other plans have a bit more of a paternalistic approach, using a simple and straightforward menu to guide their employees to a good outcome. There's no right answer for which is a better investment philosophy," he said.
The paper concludes that plan sponsors have a significant opportunity to help employees achieve a secure retirement by designing an investment menu that reflects the different levels of financial literacy and acknowledges the human behavioral biases of their employees.
The DCIIA white paper can be found here.