Redesigning a Plan Investment Menu
Josh Cohen, defined contribution practice leader at Russell Investments in Chicago, and author of “Core: What Is It Good For?” recommends using a three-tiered approach for investment choices.
“For most of the plans I’ve come across, the three-tier approach works well,” Cohen told PLANSPONSOR. “You tend to see the three main types of investors—do it for me, do it with me and do it myself—across all plans. It’s just the proportion of each group that changes. The three-tier approach gives more investment choices to address the needs of all three of these investor groups.”
Cohen said while a one-tiered approach may seem simpler, it’s actually not. “What often happens is that the plan sponsor tries to satisfy all three types of investors/participants and the one tier lands up being more crowded with investments.”
One challenge is how to keep the investment choices diverse with regards to risk and return, according to Cohen. “Plan sponsors can line up their investment options—such as U.S. equities, emerging markets, the small, medium and large caps—and see how diverse they are. They should ask if there is any overlap, or if there are any holes, in terms of risk and return. For instance, just having nine U.S. equity funds that all have similar risks and returns is not really diversification,” Cohen said, adding that investment choices need to be truly differentiated from each other. “If all your investment options of the same asset class, that’s not necessarily diverse either.”
Cohen notes in the paper that investment menu design depends on what investment options a plan sponsor wants to give participants to adjust their portfolios. For an increased ability to make adjustments to their investments, participants need to be given a wide range of options.
With multiple tiers of investment choices, plan sponsors need to customize their participant communications accordingly, said Cohen. “What needs to be done is to make participants aware of what their investor preferences are (do it for me, etc.), and then see what tier of investments is appropriate for them. The approach to participant communications then needs to be consistent with those findings.”
Cohen said there definitely needs to be a multi-channel approach with participant communications. “While there are some materials that are required by law to be in paper form, there are other materials that can be delivered electronically. Companies are looking at online delivery such as social media, blogs and intranets, and some are even starting to use online videos for certain topics.”
As to the question of whether more investment choices creates more fiduciary risk, Cohen notes in the paper that plan sponsors are on solid ground as long as they do what they believe is in the best interests of participants, document their decisions, follow the prudent investor standard and engage the services of experts when they do not have the requisite expertise.
The full text of the paper can be downloaded here. The related question-and-answer sheet can be downloaded here.