Administration June 9, 2006

Study Finds 1% DC Underperformance in DB-DC Comparison

September 6, 2006 (PLANSPONSOR.com) - During the 16 years between 1988 and 2004, defined benefit pensions bested the performance of 401(k) plans by 1%, according to a new study.
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The research by Boston College’s Center for Retirement Research showed IRA’s produce even weaker returns than 401(k) plans, which researchers cautioned could represent a particular red flag for concern because of the large amount of assets being rolled over into IRA accounts.

However, the authors also expressed alarm over not having better IRA data. ” IRAs are too big and important a form of retirement saving to not know what is going on with these ac­counts,” they wrote. “Some mechanism is needed to identify the asset allocations in these accounts as well as docu­ment the inflows and outflows. Only by including IRAs will it be possible to understand fully how well people are investing for retirement.”

According to researchers Alicia Munnell, Mauricio Soto, Jerilyn Libby, and John Prinzivalli, the higher DB performance came despite the fact that 401(k) plans were more heavily weighted in equities during the 1990s, but 401(k) plans have also had to deal with higher fees – which the researchers said may be an explanation.

The report also cautioned about a significant asset mix problem with 401(k) accounts. Despite “a reasonable mix” at the systemic level, nearly half of 401(k) partici­pants were either nearly fully invested in stocks or held no stocks at all. A continuation of the current trend of plan sponsors’ use of balanced funds as investment default choices could help improve 401(k) plans performance, the researchers asserted.

The review, which studied about 5,000 companies that sponsored both kinds of plans from 1988 to 2004, reinforced the conventional wisdom that larger plans are more likely to perform better than smaller plans – a fact the authors attributed to larger employers’ greater access to professional investing help and their ability to spread fees over a larger base.

Annual median rates from 1988 to 2004 ranked by quintile for DB, 401(k) plans were:

  • Largest 20%: 10.1%, 8.8%
  • Second: 8.9%, 8.1%
  • Third: 8.2%, 7.8%
  • Fourth: 7.4%, 7.6%
  • Smallest 20%: 5.6%, 6.6%    

The research report is here .

 

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