Investment-only shops create income guarantees, but clients aren't biting yet
By Jeff Nash October 5, 2009, 12:01 AM ET
Lacking: Sue Walton believes more details are needed on income solutions.
Several money managers are scrambling to design investment options embedded with annuities or income guarantees in what they hope will be the next major evolution in defined contribution plans.
… With 401(k) and other DC plans now the main retirement vehicle for many workers, the industry has been shifting away from focusing on asset accumulation to retirement income and the distribution phase. Plus, last year's market collapse further highlighted the need for plans to better protect assets, particularly for those participants at or near retirement.
As a result, several investment-only DC service providers … have launched or are developing strategies within investment plan options such as target-date funds that annuitize or guarantee a portion of participants' assets to provide steady income. …
But industry experts say DC plan executives, along with their consultants and some large record keepers, are reluctant to get behind such solutions, citing legal and fiduciary hurdles and cost concerns. Some even wonder if there is participant demand for such strategies.
“Adding income solutions to DC plans makes perfect sense, but the details are the biggest challenge,” said Sue Walton, senior investment consultant at Watson Wyatt Worldwide in Chicago. …
Keith Overly, executive director of the $6.8 billion Ohio Public Employees Deferred Compensation Program, Columbus, agreed the idea of adding a guaranteed income option to target-date funds or other investment options is “good in theory,” but “there are certainly many details to consider, including fees, how the product is structured, and whatever terms and conditions apply if a plan wishes to terminate a manager and discontinue the guaranteed income product.”
Tobi Davis, retirement plans and cash manager at Playboy Enterprises Inc., Chicago, which has an $87 million 401(k) plan, said “it's a bit early” for DC plan sponsors to adopt guaranteed income solutions. …
2 strategies
There are two basic strategies for offering income guarantees. In one approach, an investment manager designs a target-date fund (or other qualified default option) that includes an income guarantee from one or more insurers. The participant begins accumulating future income by buying slivers of a traditional deferred fixed annuity as he or she approaches retirement. At retirement, the participant continues to receive income from the annuity, and the rest of the plan's assets are invested.
In the second strategy, the investment manager and the insurer design a “guaranteed lifetime withdrawal benefit,” which is offered as part of a target-date fund or balanced fund. The participant chooses to transfer assets in that fund to the guaranteed benefit, or is automatically enrolled in the feature as he or she nears retirement. The design allows participants to remain invested in a balanced portfolio “wrapped” by an insurance guarantee, permitting the participant to withdraw a set percentage of the “high-water” value of the account each year in retirement, even if the market value of the account is tapped out.
Philip Suess, a Chicago-based principal at Mercer, said the complexity of such investments could initially put off some plan executives and participants. “But I think there is a place for these types of solutions,” he said. …
One major hurdle, explained David L. Wray, president of the Profit Sharing/401(k) Council of America, Chicago, is that such solutions “currently don't have the blessing of the federal government.” Congress, he said, would have to repeal the joint and survivor annuity laws, which give a non-employee spouse the right to choose a survivorship annuity as the way in which benefits are distributed from the plan. …
Another issue, said Tom Idzorek, chief investment officer and director of research and product development with Chicago-based Ibbotson Associates Inc., is plan sponsors are worried about the fiduciary risk of choosing a new, untested strategy. “This is something all plan sponsors are talking about, but very few want to be the first movers,” he said. “Plan sponsors have a very strong desire to not be sued.” …
Plan executives might receive a nudge from Washington. Late last month, Phyllis C. Borzi, assistant labor secretary, told the Profit Sharing/401k Council of America's annual conference that she is planning to ask plan executives, consultants and vendors what regulatory or statutory changes would “encourage” employers to offer a lifetime income stream option, such as an annuity, in their DC plans.
Safe-harbor designation
Thomas J. Fontaine, global head of AllianceBernstein Defined Contribution Investments, New York, said if Washington were to classify DC investment options with lifetime income guarantees as “safe harbor” investments, “it would ignite the adoption” of such investments. “Nothing changed quicker than the adoption of target-date funds after it was designated a safe harbor, thus protecting plan sponsors from lawsuits.” …
BGI spokesman Lance Berg said the company hasn't “quantified” the success of the program yet, but did say company officials have had “hundreds” of meeting with plan sponsors about the program.
Drew Carrington, UBS Global Asset Management's managing director and head of defined contribution and retirement solutions, Chicago, … said record keepers and consultants have been reluctant to recommend these products to plan sponsor clients. (Fidelity Investments, for example, has no plans to add a guaranteed income to their lifecycle funds, said spokeswoman Sophie Launay.)
“Record keepers are concerned about record keeping these investments and portability,” Mr. Carrington explained. “Consultants tend to stick traditional, marketable investments. It's really important that we get both consultants and large record keepers on our side on this one.”
Contact Jeff Nash at jnash@pionline.com
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