Choosing Between a Stable Value or Money Market Fund

Lawsuits have led to confusion about which direction retirement plan sponsors should go when choosing a capital preservation fund for their plan lineup.

There have been lawsuits filed against retirement plan sponsors for offering stable value funds as opposed to money market funds, and vice versa. It is important for defined contribution (DC) retirement plan sponsors to know what to weigh about each type of capital preservation fund when deciding what to include in their plan lineups.

“Money market funds are the simpler of the two to describe,” says David O’Meara, an investment consultant with Willis Towers Watson in New York. “They invest in very short-term, high-quality, liquid debt instruments, such as overnight bank loans and revolving credit. With the money market fund reform of a few years ago, many of the funds being used today are restricted to government-only securities, such as Treasuries and agency short-term debt.”

There are also prime money market funds, “which include securitized investments, commercial paper or overnight bank loans,” O’Meara continues. “These carry the potential for a floating net asset value or gates, should the value of the fund become impaired. For this reason, most 401(k) sponsors only use the traditional money market funds that invest in government-only securities because they don’t want to deal with the complexities of the prime funds.”

Stable value funds, on the other hand, “invest in both short-  and intermediate-term securities and follow the traditional concept of investing where the value of money over time generates a higher yield,” notes John Faustino, chief product and strategy officer at Fi360 in Lawton, Michigan. “They tend to hold investments that are slightly less liquid and, as a result, have a higher yield. Plus, they have an insurance wrapper that protects the value of the assets should there be a fluctuation or a decrease in the assets’ value.”

For this reason, Antonis Mistras, managing director, alternative investments at DuPont Capital in Wilmington, Delaware, believes that stable value funds are preferable choice to money market funds: “Their yields are not based on overnight rates but further out on the spectrum,” he says. “They aim to capture the premium two-and-a-half years to three-and-a-half years, which, would normally capture about two percentage points above money market funds. However, in today’s yield curve, that is not there. History has shown, though, that stable value funds have outperformed money market funds anywhere from one percent to three percent.”

Timothy Grove, a vice president in Prudential Retirement’s stable value business in Woodbridge, New Jersey, agrees that, as a long-term investment, stable value funds are the preferable choice. “Money market funds typically deliver returns that are below inflation,” Grove says. “If you think of that as an investment vehicle in a participant’s portfolio, that real return can be negative. In fact, for the past 10 years, money market fund returns have been at nearly zero percent. With stable value funds’ rates typically above inflation they can play an important role in a participant’s portfolio.”

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Ralph Ferraro, senior vice president, head of product, retirement plan services at Lincoln Financial Group in Radnor, Pennsylvania, says performance data from the past 30 years bears out stable value funds’ outperformance. “What we see from how the underlying investments work, we see stable value funds as in line with the long-term objectives of a retirement plan,” Ferraro says. “In the past 30 years, they have outperformed mutual funds except for three six- to 12-month instances when money market funds exceeded their returns. Because of those data points, we see sponsors preferring stable value funds to money market funds. In fact, a survey by Aon found that 75% of sponsors prefer stable value funds, while 38% offer money market funds.”

But there are considerations that sponsors should keep in mind when assessing whether to offer a stable value or money market fund, the experts say.

“Mutual funds’ biggest benefit is they offer the most flexibility in terms of transparency,” says Matt Patrick, team leader, investment solutions at CAPTRUST in Raleigh, North Carolina. “They are also easily portable, so if the plan sponsor wants to move to another recordkeeper, they can take their money market fund with them. Plus, for participants, they can easily move their money in and out of a money market fund.”

Stable value funds typically set time limits up to a year before an investor can withdraw their money, Faustino says. Thus, a sponsor needs to “think about their plan’s demographics and other specifics of their plan,” he says. “Stable value funds tend to be challenging to get out of all at once, so if the sponsoring company is likely to face a significant event, such as layoffs or a sale, that could trigger a lot of the participants in stable value funds to sell out. In that case, the money market fund is the better option.”

The most important thing to consider when evaluating a stable value fund, Faustino says, is the ability of the multiple wrap providers to pay. “Lawsuits brought against sponsors for stable value funds are often premised on the fact that the proper due diligence wasn’t done on the front end,” he says. “It is also important to look at the relative yields of those investments compared to alternatives. That it critical with the capital preservation choices.”

Also, because there isn’t as much data on returns—changes in the crediting rate associated with the insurance wrappers for stable value funds, compared to the information available on money market funds—it is important for sponsors to work with advisers “who can be thorough in selecting and monitoring capital preservation funds, and to look for data sources that can provide them with consistent and ongoing data on those investments,” Faustino says.

Grove adds: “the litigation against stable value funds has primarily focused on the exit provisions, the lack of transparency and the fees, whereas the suits against money market funds have focused on the low returns over the past decade.”