Strategies to Simplify DC Plan Investment Menus

Plan sponsors can use a layering approach and white labeling to help defined contribution plan participants select investments.

Retirement plan sponsors can help participants with investment decisions by ditching duplicate funds, simplifying their choices through layering, and white labeling investments. 

While many participants are defaulted into target-date funds—the most prevalent industry-wide qualified default investment alternative, or QDIA—TDFs are also a simple choice for those who select investments on their own and want diversification. However, there is still a cohort of participants who prefer to choose their own asset allocation mix.  

“A simple, yet effective way of simplifying the investment choices is for a plan sponsor to ensure that it’s offering enough investments to allow the participants to diversify and have different selections across different categories,” says Adam Rivett, consultant at OneDigital Retirement + Wealth.

An industry-accepted, well-known investment advisory and fund researcher’s “Style Box” description is useful to cull the investment menu, he says. “To not overwhelm them with paralysis of analysis by giving them too many choices, a best way to do that is not to have overlapping funds in the same style box,” Rivett says.  

Investment Layers  

A method for plan sponsors to arrange investments on a defined contribution plan investment menu is through layers of sophistication to account for complexity, explains Steve Vernon, a consulting research scholar at the Stanford Center on Longevity.

The first layer is an asset allocation fund, such as a TDF. From there, the plan sponsor should include three to six investment options for participants who want to allocate on their own. The final layer is a brokerage window where participants can select from any mutual fund, exchange-traded fund, and individual stocks and bonds, says Vernon. “That provides really sophisticated investors with flexibility,” he says.

An additional benefit of layering is that it could target personalized asset allocations and risk tolerance for participants by accounting for outside assets they have, Vernon adds. “Some participants have their investments spread among other IRAs [individual retirement accounts], and their spouse might have savings accounts, and they may have more specialized needs,” says Vernon.

A maximized asset allocation strategy could be to invest based on the total assets a participant has across different accounts. “This layering approach lets people have a one-size-fits-all fund which would be target-date fund, or a mix your own assets depending on their overall savings situation,” Vernon says.

Among the three to six investment options to allow for diversification without more complexity, plan sponsors could include a broad-based stock fund, a broad fixed income fund, and a stable value or money market fund for principal protection, says Vernon. 

Plan sponsors can also offer within the investment menu or within a brokerage window access to stocks or bonds that hedge against inflation or provide investments uncorrelated to traditional stocks. These could include Treasury inflation protection securities, or TIPS, real estate funds, and real estate investment trusts, sources say.

White Labeling

Another option for DC retirement plan sponsors to simplify investment menus is a white labeling approach. Plan sponsors could white label funds simply to take the provider’s name out of the fund name, or they can offer a single investment that uses a mix of underlying funds to offer participants multi-manager exposures to various assets. This second approach is also a way to ditch duplicate funds in the same style box. For example, a plan sponsor can offer a single option called the Large-Cap Equity Fund, but assets in the fund are directed to several underlying funds.

“[With white labeling], you have an investment adviser who’s actually taking care of the review of the funds, and you can have multiple managers there,” says Robyn Credico, defined contribution practice leader, North America, at Willis Towers Watson. “You can do a lot more interesting things that help the participant without confusing them.”

She warns, however, that white labeling can carry heavy costs. Access is often restricted to plans with assets of $500 million and above because of the cost of administration.

Rivett says white labeling has begun to move down-market through collective investment trusts. CITs, which are pooled, tax-exempt investment vehicles that commingle assets, and are administered by the bank or trust which acts as the trustee, can allow for more plan flexibility.

However, a plan sponsor turning to white labeling should have a good justification to do it because there are “plenty of low-cost index funds available,” in the market, Vernon suggests.

He says a plan sponsor might want to first exhaust those options and determine whether readily available low-cost index funds meet the needs of their employees. The plan sponsor also must have enough assets to make white labeling funds worthwhile.

“If they do have enough demand for a white label fund and they think that the current availability of low-cost index funds doesn’t meet participants needs then white labeling can be a good idea,” he says.

Communicating About the Investment Menu

After a plan sponsor has ensured that its investment menu offers quality, well-performing, diversified investments, it will want to ensure participants actually use the funds offered to them, says Rivett.  Plan sponsors should make sure participants understand the investment choices and how to use them.

Plan sponsors can’t just offer a fund, walk away, and let participants have at it. “As a fiduciary, I don’t want to take the risk of offering investments if nobody uses them,” says Credico.