“Unlike most corrections we’ve experienced, this one affected not only our wealth but also our health,” Jonathan Young of Capital Group American Funds said of the pandemic-driven economic uncertainty, during a session for the Excel 401(k) Digital Series. Young addressed 401k myths that advisors to plan sponsors are facing as they assist their clients in designing effective retirement plans for their employees.
“As we talk about investments” with clients, he said, “we have to reframe these investments to help folks understand the new realities of the world we live in.”
The session, “401(k) mythbusters: Myths, realities and actionable ideas,” is available on-demand at the Excel 401(k) website.
401k Myth 1: 91.5% of returns come from asset allocation.
That data point comes from a 1994 study that Young suggests was misinterpreted. A 2010 study found that many of the citations in the original study were incorrect, he said.
“That’s because the study wasn’t looking at investment results at all, but the variability of results, the volatility over time,” Young said. “The higher the percentage a retirement plan asset has in equities, the higher the volatility, but that does not necessarily mean you shouldn’t invest in equities.”
Volatility shouldn’t be the only factor in clients’ decisions, he added. Risk needs to be balanced with return. A 2012 study found about 40% of variance in returns was due to asset allocation, Young said.
401k Myth 2: Style boxes are a sufficient framework for plan menu design.
Morningstar’s nine-square grids are a popular tool for comparing investment selections, but Young cited Don Philips, managing director at Morningstar, who said the boxes were designed to be descriptive, not prescriptive.
“There’s a huge disconnect out there and many people unfortunately have been using these boxes wrong for years,” Young said.
401k Myth 3: Expenses are advisors’ biggest fiduciary risk.
Lawmakers’ focus on advisory fees has led some plan sponsors to believe that’s the only thing they should be looking at when working with an advisor, Young, said, but he pointed out that 408(b)2 does not require advisors to recommend the lowest cost investments, just that they be reasonable.
“There is no mandate anywhere dictating selecting a lowest cost option, period, full stop. It doesn’t exist,” he said.
That might have plan sponsors thinking too much about fees and not enough about their participants. Some have turned to passive investments to avoid the fee question, but Young noted there’s no safe harbor for passive investing.
Related: 4 Ways to Charge 401k Fees (And Why They Matter)
“You’ve got to have a process, and you’ve got to follow the process” when selecting investments, he said.
He suggested active funds might be a better choice sometimes because “with active funds, you can clearly delineate between Active Fund A and Active Fund B.
401k Myth 4: Policy statements are a fiduciary safety net.
On the contrary, Young said, policy statements could more closely resemble a net being cast over unwitting advisors.
Offering policy statements for things like cybersecurity, investment, education or recordkeeping are best practices, but they’re not required by the DOL, he said. Advisors who are tempted to use policy statements as CYAs may be tempted to put too much in writing, he said.
“We shouldn’t let the market or the media drive what we put in our policy statements. And, of course, we can’t forget we need to adjust them as our goals change,” he said.
401k Myth 5: The SECURE Act solves for lifetime retirement income.
Young said that the act provides protection against an insurer becoming insolvent, not against picking the wrong product. “It provides a pathway to protected income,” Young said.
Related: In SECURE Act’s Wake, Nationwide to Launch Full Suite of In-Plan Annuities
Advisors need to better engage plan sponsors so that they understand the distinction between retirement income and lifetime income, and make sure they have options for turning retirement savings into lifetime income, such as target date funds or in-plan protected income products.
401k Myth 6: MEPs and PEPs are more efficient options for recordkeeping.
The SECURE Act also opened the door to Open MEPs and PEPs, but it’s not clear what that will look like for investors and plan sponsors, Young said. He noted that there are some advantages to these types of plans, Young said (one of the biggest being elimination of the “one bad apple rule”), but some recordkeepers aren’t necessarily more competitive for employers.
“We’ve got to think about the infrastructure required to support the services of these arrangements,” he said, adding that commoditization of investment offerings might dampen advisors’ value.
Related:
- Beyond Fiduciary: A Moral Argument for 401ks
- Surprise? SECURE Act Drives Interest in Retirement Plan Annuities
- 7 Tools to Make Sure Retirement Savings Last Longer Than Retirees
Danielle Andrus works as an editor for The Financial Planning Association® (FPA®). Over the past 15 years, she has worked in various capacities, including writing and editing. Andrus has worked for several notable publications and outlets and spent more than seven years as the executive managing editor at ALM Media, publisher of Investment Advisor magazine and ThinkAdvisor.com. Before that, she was online editor for Summit Professional Networks, where she oversaw newsletter development for four magazines, including Benefits Selling, Senior Market Advisor, Boomer Market Advisor, and Bank Advisor.
