The latest in the J.P. Morgan Asset Management Ready! Fire! Aim? series of research studies found that the average starting salary for defaulted participants was $35,000 per year compared to the average $38,000 starting annual salary for all participants in its analysis, and the disparity between salary levels continued across participants’ careers. While this may indicate that defaulted participants need less replacement income to maintain their standard of living in retirement, J.P. Morgan’s past research consistently showed that lower salaries usually were directly linked to lower contributions, according to the report.
J.P. Morgan contended that contribution rates for defaulted participants start too low and remain well below industry expectations across their entire careers. The research found that the average 5% starting contribution for defaulted participants was below the average 5.8% for all participants, and the average defaulted participant only reached an 8% contribution rate by age 50 and a 10% rate by age 65.
This significantly lagged the broader group, where the average participant’s contribution rate increased to 8% by age 42 and 10% by age 55. More important, these levels were well below the 10%-12% annual rate often recommended by financial advisers as necessary to achieve adequate retirement savings, J.P. Morgan said.
“Proactive auto-enrollment and auto-escalation programs can improve participation rates, but these programs need to be set at high enough contribution levels to firmly place defaulted participants on a more prudent savings path,” the report said.
Projected balances at age 65 were significantly lower for defaulted participants in the analysis. Aside from the low contribution levels this could also be because a sizable number of defaulted participants take loans, J.P. Morgan found, and most withdraw their entire account balances shortly after they stop working.
J.P. Morgan also advises that effective participant communication must actively engage these participants and educate them on how critical their saving patterns are to achieving retirement success.
QDIA Selection Key to Helping Defaulted Participants
J.P. Morgan Asset Management, in its latest Ready! Fire! Aim? research, contends that a prudently designed QDIA target date strategy can help defaulted participants secure adequate funding for retirement. The firm analyzed which type of target date design was most likely to help defaulted participants successfully save for retirement, based on the saving behaviors of defaulted participants it uncovered.
J.P. Morgan said the portfolio design of many target date strategies may be missing the mark on providing defaulted participants with an adequate level of retirement security. In its analysis, target date funds that relied too heavily on equity performance increased potential overall volatility and exposed defaulted participants to steep market declines, especially in the crucial five to ten years before retirement, while at the other extreme, portfolios that reduced risk purely with more conservative holdings were less volatile, but they also drastically restricted long-term performance.
“A more prudent investment approach was offered by target date strategies that focused on investing at controlled levels of risk through broader diversification and relatively rapid reduction in equity exposure in the years leading up to retirement,” the report said. “By including asset classes such as emerging market equity, emerging market debt, direct real estate, REITs and high-yield fixed income, these portfolios reduced expected volatility without sacrificing long-term return potential.”
J.P. Morgan concluded that the three critical selection criteria of a QDIA target date lineup should be risk-adjusted return potential, volatility management, and equity exposure, particularly at and near retirement.
More information about J.P. Morgan’s research is at http://www.jpmorgan.com/institutional.