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Back to the Future for 401(k) Plan Participants

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The retirement space is in a cycle of constant evolution. Assessing where we’ve been – and where we’re going – means understanding the expectations of today’s participants as well as the changing regulatory landscape and available technology.

In the Beginning

When 401(k) investments first appeared in the 1980s, there were three main choices for participants – cash, bonds, and equity. These limitations were due to a domination of the market by insurance companies that had little to offer by way of advice or guidance. The late ’80s and early ’90s saw the rise of mutual funds, which expanded on the limited investment choices first offered but still married a participant to one company.

The mid-1990s brought about the pioneering of open architecture, giving participants the opportunity to choose from multiple mutual funds in their 401(k). The result was a variety that allowed a retirement plan to include the best of investment choices in different asset classes.

It was during this time that my first firm, National Retirement Partners, excelled. Using the open architecture model, I drove platforms like Fidelity from using 100% proprietary products, to at first allowing up to 25% from an outside plan, then 50%, then ultimately 100%.  My vision of open architecture allowed participants to have better choices, which allowed them to make better decisions, which hopefully led to a more successful retirement plan.

This exciting and uncharted territory wasn’t without its challenges, however, and suddenly participants were presented with what some perceived as too much choice. A new participant, for example, with little understanding of the market might sign up for a 401(k) and find themselves presented with two dozen choices.

The Rise of Target Date Funds

That brings us to where we are today. The advent of the target date fund (TDF) significantly simplified a participant’s investment decision-making process. All participants needed to do was to pick the fund that had the date they intended to retire and the machine took care of everything else. TDFs have proven to be the magic cocktail for participants, and as recently as the third quarter of 2015, a Callan study reported that 61 cents of every retirement plan dollar is flowing into target date funds.

Today, we categorize participants into three groups:

  1. The “Do it for me” group. This category makes up 61% of the American population, and they range across the board in age and demographics. These are perfect candidates for target date funds, because there is a minimal need to be engaged with their investments yet participants feel they’re in good hands.
  2. The middle child – or the “Help me” group.  This category – typically more money-savvy with more to invest – wants more insight and control over their investments, but are overwhelmed or have limited time to understand all of the available choices. Mutual funds are a good target for this group.  
  3. The “Ruggedly independent” group. This is by far the minority of Americans who want to be very involved in their 401(k) investment. These are professionals who spend a lot of time managing money and following markets. This group might benefit best from a self-directed brokerage account where they can buy individual stocks, ETFs, bonds and mutual funds. 

Moving Forward by Looking Back

As we look ahead, we see a continued growth in TDFs. But for the “middle child” group, we’re seeing plans with a reduced number of choices really catching on. In a way, the 401(k) landscape is having a “Back to the Future” moment. Lineups are getting less complicated by offering less choice, like they had been in the beginning. But the difference is that this new investment strategy is being accomplished with vehicles such as collective investment trusts (CITs), which preserve the benefits of open architecture.

CITS have the capability of offering multiple choices for a single CIT. Participants don’t have to try to figure out which small- and mid-cap investments they want to include, for example, and as advisors we have a tremendous amount of ability to manage those underlying investments. CITs are also, generally speaking, significantly less expensive than their comparable mutual fund peers and therefore save participants money beneficial to their long term rate of return. We expect a rise in CITs over the next few years.

Lastly, and perhaps another clue that the industry is in a state of nostalgic throwback, is that we are seeing more desire for human interaction when it comes to asking questions about investments. With technology and automation now forming the fabric of our industry, the human element has for some time been abstracted out of the process.

I believe there is a real desire to return to that old-fashioned client service model where a participant can talk to someone about education, guidance and advice. Sometimes what was old becomes new, and in this case, we’re taking the best of the past, the present, and the future for the benefit of our clients.

Callan Investments Institute, 2016 Defined Contribution (DC) Trends Survey


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