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Report Eyes Effects Of Enron Collapse On 401(k) Industry

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The collapse of energy conglomerate Enron Corp. and the substantial loss of retirement savings by a number of employees that followed have many questioning the wisdom of allowing 401(k) participants to disproportionately fill their retirement plan with company stock.

Washington is responding by readying legislation on pension reform. (See NU, March 25.)

With legislation pending and uncertainty as to what shape a pension reform bill will finally take, there is no telling how it might affect the 401(k) industry, says Jack VanDerhei, a faculty member of the Fox School of Business and Management at Temple University, Philadelphia, and a Fellow of the Employee Benefits Research Institute, Washington.

He recently prepared a report that investigates the effects of the Enron debacle through an outline of the makeup of large 401(k) plans (with 5,000 or more employees) and small (with fewer than 5,000 employees).

VanDerhei surveyed members of the International Society of Certified Employee Benefit Specialists whose client/employer sponsors a 401(k) plan.

Forty-eight percent of respondents say there is a company stock investment option in their client/employers plan.

Large plans have a company stock option in their 401(k) program 73% of the time, whereas small plans have a company stock option 32% of the time.

Among plans that have a company stock option, 39% of employees have less than 10% invested in company stock; 42% of employees have 10%-50% invested in company stock; and 18% of employees have 50% invested in company stock.

Forty-three percent of companies that have a company stock investment option are required to invest contributions in company stock.

Among companies that have a company stock option, 49% of large plans require employers contributions to be invested in company stock; only 38% of small plans do so.

Of the plans in which employer contributions are required to be invested in company stock, 60% of respondents said participants are restricted from selling company stock until a specified age and/or service requirement was met; 27% reported there are restrictions throughout a participants investment in the plan; and 13% reported no restrictions.

Fourteen percent of those with a company stock investment option said there are limits on the amount or percentage of company stock a participant could have in his 401(k) plan.

The report indicates that blackout periods are shorter in large plans than small. A blackout, referred to by some as “lockdown” is a period of time that a company is changing the management of its retirement account and during which participants are suspended from switching their investments.

The duration of the blackout period does not appear to be affected by whether or not there is a company stock option, the report says. However, the blackout period is slightly longer when employer contributions are required to go into company stock.

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Regarding the Enron situation, 43% of respondents thought employees did not feel it applies to them; 27% thought employees questioned why employers have the ability to mandate whether company matches are invested in company stock; and 22% thought the Enron situation caused participants to review their asset allocation.

Eighty-three percent of respondents strongly agree that plan sponsors offering a company stock option should advise participants to diversify.

Fifty-eight percent of respondents said problems resulting from employees putting their own contributions in company stock would be mitigated if employers were allowed to provide independent financial advice to participants.

VanDerhei suspects that of all the issues pension reform legislation could affect, a law that mandates change in the blackout period would have the biggest impact on the 401(k) industry.

He feels the risk is not with the employer or the new service provider, but with the “entity thats about to become the ex-service provider.

“I think its going to be very difficult, especially since the employer has never been through this before, to get the kind of turnaround people might be expecting as a result of the (potential) legislation. How are you going to (expect) a soon-to-be ex-provider to be able to give you timely responses?”

Ninety days might be enough time for some employers with matching contributions to change strategy “but I doubt it will have a big impact,” he says.

The Enron collapse will, in the short term, cause employees to look more closely at asset allocation and increase their propensity for diversification, VanDerhei says.

Regarding employers, VanDerhei believes that, barring a legislative mandate, there will be little change in either the tendency to match company stock or the length of time companies require their employees to keep contributions in company stock.

The fact that there is a significant percentage of contributions going into employer stock, let alone the ramifications to Enron employees of their recent crisis, suggests that employees need to be better educated about asset allocation says Eric Schneeman, chairman and founder of Search401k, Mendota Heights, Minn.

There are certain steps professionals in the industry should be able to take to prevent another Enron, he says.

“Someone needs to take ownership of (the education of employees) and a lot of employers dont have the personnel or the resources and there are people who make their living as professional investment advisors,” he says.

“You have smaller employers than Enron that have risky stock that are going to need someone to help employees understand this risk. Eventually I think a lot of people will be able to do it electronically,” but it would be wise to allow investment advisors to step in where employees need them most, Schneeman says.

“When it comes to what is probably their largest single asset, [401(k) participants are] not willing to use some computer model to do their allocation,” he says. “They want a professional to look at it and say that makes sense or not. “


Reproduced from National Underwriter Life & Health/Financial Services Edition, April 1, 2002. Copyright 2002 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.