Less Is More: Sponsors Simplify 401(k) Menus

By Stephen Miller, CEBS Jun 19, 2014

On average, participants in 401(k) or other defined contribution (DC) plans use less than five investment funds. However, the majority of plan sponsors have investment lineups offering three to five times that many options. While the intention is to help employees achieve adequate retirement income by providing diversification of asset classes, the result is often to leave participants feeling confused and overwhelmed, according to findings from the Defined Contribution Trends 2014 survey by financial services firm SEIC.

As plan sponsors continue to look for ways to help employees save for a secure retirement, many are moving to simplify the structure of their investment lineups, according to the SEIC survey, completed in February by 285 executives at DC plans ranging in size from $25 million to more than $5 billion. The key findings were:

  • A large majority of defined contribution participants must choose from an investment menu with anywhere fromA large majority of defined contribution participants must choose from an investment menu with anywhere from 16 to more than 36 funds being offered.
  • In the next 18 months, plan sponsors are likely to make changes that could include consolidating the number of funds in the core lineup.

“Smaller plan lineups could help increase overall participation, deferral rates and overall equity allocations,” the report states. “More is not necessarily always better. Many DC plan sponsors are coming to this conclusion as they examine the current state of their investment options in their plan and consider consolidation.”

The report further notes, “Rarely does a high number of funds result in participants being in a position to succeed. Participants might attempt to diversify by using all of the options made available to them, resulting in less than optimized asset allocations. Or, participants might be overloaded with choices, thus electing status quo.”

Past industry research supports this point, indicating a decline of participation rates as the number of offered funds increases. Moreover, plan sponsors can, in many cases, offer fewer funds and effectively cover the full range of institutional asset classes. For example, the report suggests that a simplified lineup might include a best-in-class fund for the following asset classes:

  • Large cap U.S. equity.
  • Small/mid cap U.S. equity.
  • International equity (including developed and emerging markets).
  • Fixed income (including emerging market debt, high-yield bonds, structured credit, etc.).
  • Real assets (commodities, real estate investment trusts, etc.).
  • A target date series.

Fiduciary Issues

An oversaturated plan lineup could make it more difficult for plan sponsors to meet oversight and due diligence requirements, the report observes. “The most basic plan lineups can prove challenging from a fiduciary perspective when it comes to manager oversight. Plans offering a high number of options obviously result in more money managers and subsequently more oversight requirements.”

Simplify, Simplify, Simplify

Less than one-third (29 percent) of plan sponsors offering 16 or more funds said that a measure of investment success is to “evaluate if projected participant income replacement ratios are being met at retirement,” the survey found. As a result, “It appears a number of plan sponsors are not only offering a high volume of funds, but are doing so with minimal focus on whether or not those funds are contributing to the goal of providing adequate retirement income,” concludes the report.

Stephen Miller, CEBS, is an online editor/manager for SHRM. Follow him on Twitter @SHRMsmiller.

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