Defined contribution plan sponsors allocate less time and attention to fixed income relative to other asset classes, but that may be changing, according to a new survey.
T. Rowe Price recently conducted a survey of plan sponsors to better understand their views on the use of fixed income assets in defined contribution plans and how the governance and structuring of these offerings could evolve moving forward.
The T. Rowe Price “Future of Fixed Income in DC Plans” survey included responses from plan sponsors responsible for the oversight of fixed income decisions in defined contribution plans with assets of over $500 million. The survey received responses from 54 individuals who work in finance/treasury/investments (41), human resources/benefits (8) or both/other (5).
The survey found that equity and target date strategies currently receive the highest allocation of time and attention. On average, fixed income receives a little more than half of the sponsor governance capacity devoted to equity (18% versus 31%), and less time is devoted to capital preservation (13%).
“The role of fixed income in defined contribution plans is becoming more complex because of shifting participant demographics, market and interest rate uncertainties, and the limitations of core bond strategies,” Lorie Latham, senior defined contribution strategist, said in a statement.
Survey results show DC plan sponsors are looking to incorporate several fixed income characteristics when constructing plans to meet the needs of participants, including diversification (59%) and preservation of capital (51%).
When considering how to best integrate these characteristics into plan offerings, plan sponsors are closely monitoring concerns such as rising interest rates, low yields, and inflation. According to the survey, 93% included rising rates in their top three risks for fixed income investing, 69% included low yields and 56% also included inflation in their top three risks.
Plan sponsors will likely face increased pressure to address these issues, according to T. Rowe Price, and findings show that broadening opportunities with their fixed income allocation is a possible solution.
“The U.S. and global bond markets have developed over the past two decades to the point where they now offer investors many attractive opportunities to enhance portfolio diversification, improve returns while maintaining an eye on risk,” Latham said in a statement. “While some of these levers have been underutilized in defined contribution plans, it appears that plan sponsors are growing more receptive to them, based on their stated intentions over the next 12 months. This could help plan sponsors address the longevity and inflation risks their participants face.”
Here are three more trends where plan sponsors are starting to rethink fixed income in DC plans.
Anticipated investment trends in the next 12 months
Fixed income plays an important role when saving for retirement, but “each participant has unique risk tolerance and investment goals,” according to T. Rowe Price.
The majority of DC plans surveyed (80%) offer stable value strategies and core bond strategies (85%) to help meet those goals, but few offer non-investment grade or global income strategies, the survey finds. Less than half (44%) offer a TIPS strategy or some other type of inflation-hedging strategy, 22% include global bond strategies, and only 4% offer unconstrained and/or absolute return strategies.
The survey does find that plan sponsors are considering a change over the next year. Specifically, 15% of plan sponsors intend to consider adding a multi-strategy/white label fixed income offering, 13% a global bond strategy, and 13% other strategies including high yield, emerging market debt, other capital preservation.
According to T. Rowe Price, sponsors are growing more open to implementing options with structures that allow for more flexibility and a combination of portfolios.
Active management preferred for fixed income
T. Rowe Price also finds that plan sponsors have a strong interest in actively managed products for their fixed income allocations. Other than the core bond and TIPS categories (where passive is preferred), active management is largely preferred. This includes categories such as stable value, core plus bond, global bond, and unconstrained/absolute return.
This preference is also reflected in the findings that show how fixed income offerings might change in the next 12 months, with only 2% of plan sponsors cited adding passive core bond.
The survey also finds key demographic trends among plan participants. About half of plan sponsors (44%) reported a shift toward an older participant base compared to 10 years ago.
A separate analysis in 2016 of plans for which T. Rowe Price provides record keeping services found that over the past 10 years the percentage of participants in the 50+ age group has risen from 34% to 38%.
Current findings show that allocations to fixed income increase with age; and, participants over the age of 50 own more than 75% of fixed income assets.
“This makes a strong case for plan sponsors to expand their fixed income offerings to meet the needs of a participant base that’s growing older,” the report concludes.
While those over age 50 are most heavily impacted by the lack of options due to their exposure to the fixed income market, the asset class can play an important role in achieving investment goals for all age groups, according to T. Rowe Price. And the survey finds that plan sponsors are recognizing this. Nearly two thirds (66%) of those surveyed agreed that it is important to offer a range of fixed income options based on differing risk, return and income preferences.