The New Work Perk: A Little Advice for Investors
In my fantasies, when the coming labor shortage strikes as boomers retire and fewer people enter the workforce, companies will find themselves forced to offer traditional pensions to lure the best and the brightest away from competitors.
But, unless and until that happens, more of us will be depending on defined-contribution plans for retirement -- the 401(k) and its cousins that require workers to set aside money and invest it wisely. That's why Congress included changes in the 2006 Pension Protection Act designed to promote participation in the plans and to help participants choose from among the growing number of investment options.
The impetus for the changes was that individuals weren't always making the best choices when it came to investing in retirement funds. Investments by defined-benefit pensions, traditional plans that pay a monthly benefit for life, generally outperformed investments by participants in defined-contribution plans by 2 to 4 percent each year, according to Scarlett Ungurean, a principal with Mercer Investment Consulting.
No surprise there. When a major corporation sets up a traditional pension plan, it hires experts to invest the money to make sure there are funds enough to cover retirement benefits. When employees contribute to savings plans, we're on our own.
Not an expert in investing? Neither am I. And yet, our futures have been placed in our own inexpert hands.
"If we're telling individuals that they have to handle their retirement savings -- not everybody in the population is a financial expert, and not everybody should have to hire a financial adviser to prepare for retirement," said Lisa Van Fleet, leader of the employee benefit practice group at the law firm Bryan Cave.
For many years, employers shied away from providing individual advice, concerned that they might be held liable for investments gone sour. The recently passed law makes clear that if they follow certain guidelines, they won't be -- specifically if the advice is provided by an independent third party or a computer model verified by an independent outsider or if there is no difference in fees among the products being offered. Consumer advocates had been concerned that conflicts of interest might result if a mutual fund running a 401(k) program were able to recommend one fund over another.
"I think it was probably acceptable where we ended up, although I'm not sure quite frankly that it was necessary," said David Certner, legislative policy director for AARP, which pushed for language that would avoid conflicts.
Even without the changes, a growing number of employers -- more than half -- already were offering individual investment advice. As a result of the change in the law, others soon may be adding this feature to their savings plans, most probably through computer programs that analyze an individual's data, make recommendations and allow individuals to opt for those recommendations by pushing a button.
Without advice, individuals often make unwise investment decisions, said Barbara Fallon-Walsh, who heads Vanguard's retirement plans services business. One is an over-aggressive strategy, with 100 percent of savings invested in stocks. Another is being too conservative, with all of a participant's savings socked away in a fixed income or money market fund. Yet another is investing too heavily in the employer's stock. Remember Enron and WorldCom?
Fallon-Walsh noted that though the number of investment options available through 401(k) and other plans has been increasing (the average is about 19 now), the number of holdings by participants has stayed about the same.
Vanguard already provides advice for participants in savings plans it administers using a computer model developed by Financial Engines, an advice program devised by economist William F. Sharpe, a Nobel Prize winner. "I think it's going to become the norm," said Fallon-Walsh said of individual advice. "Whereas before, offering advice could have exposed the plan sponsor to risk, not offering participants access to advice could become the riskier course" for employers in the future, she said.
Although more employers are likely to be offering advice, participants don't have to take it. And employers may decide to help employees diversify their investments by offering options such as life-cycle funds rather than offering more detailed advice. Life-cycle or target funds typically provide a mix of investments between stocks and more conservative options, shifting the mix to more conservative as the participant approaches retirement.
Other changes in the Pension Protection Act were designed to encourage more workers to participate, including a provision that made it easier for employers to automatically enroll workers in savings plans, allowing them to opt out within 90 days. Supporters argued that it would help workers begin saving earlier, as most wouldn't miss the money if they never saw it in their paychecks. The law also provides for an automatic escalation of contributions and requires that plans offer at least three investment options other than company stock.
A worker who is automatically enrolled in a company that offers a computerized investment recommendation would be given notice of the suggested investments with the option of accepting or changing them. At other companies, the employer might simply inform workers that such a program is available. In any case, the service may add to the costs of participation in the plan. On a managed savings plan balance of $15,000, the costs would between $30 to $90 a year, which might or might not be passed on to the participant, said Ungurean.
Even so, it may be worth paying until we realize the utopia of my fantasies in which employers also compete for workers by offering more generous health insurance plans every year.
Are you wondering whether saving for your children's education comes before saving for your own retirement? If so, and you're willing to talk about it on the record, I'd like to hear from you. Please firstname.lastname@example.org.