Managed accounts are little more than a blip on the 401(k) qualified default investment alternative landscape. That could begin to change, however, as participants age and their retirement investment requirements become less easily satisfied by cookie-cutter target date funds, and the asset management fees associated with managed accounts begin to drop in the face of increasing market competition.
Such a trend could also be fueled by a greater regulatory clarity over the ability of plan sponsors to establish different QDIAs based on participant age.
While these conditions are not going to fall into place tomorrow, analysts at Towers Watson believe 401(k) sponsors need to begin thinking about scenarios in which managed accounts, for appropriate participants, would be a better QDIA. We posit that managed accounts, customized at the participant level, have the ability to improve retirement outcomes if designed and implemented appropriately, the consulting firm stated in a recent analysis of the topic.
As the report explains, managed accounts are a service that allows participants to provide personal information and receive individualized asset allocations that are managed on an ongoing basis based on a holistic understanding of the plan participants financial circumstances and objectives. TDFs essentially are designed only around one variable: the participants age.
The only other QDIA, the balanced fund, maintains a fixed equity allocation that is arguably too low for younger participants and too high for older participants.
Individual participant circumstances that a managed account manager would take into consideration in crafting a retirement portfolio for a defined contribution participant would include anticipated retirement income from non-retirement plan sources, such as Social Security, other investments, including taxable securities and rental real estate. Also, modification to the managed account investment allocation could be made as the participants financial circumstances change.
Esoteric assets, strategies
In addition, managed accounts can employ assets and investment strategies that may be too esoteric to add to a DC structure as a stand-alone option for fear of participant confusion or misuse, according to the report.
To illustrate the potential advantages of managed accounts from an investment return standpoint, the Towers Watson report cited research contrasting the investment performance of defined benefit plan portfolios (managed by professionals) with that of DC plans (essentially managed by participants). Over the 1995-2013 time period, DB plan returns over five-year rolling average periods outperformed DC plans 87% of the time.
Also see: DOL clarifies QDIA guidance
However, the over-performance averaged .38%, which raises the incremental cost issue. Average fees for managed accounts for larger plans often begin at around .50% in addition to the underlying fees built into investment funds, with higher levels for small plans. These fees generally include free advice resources, however.
The higher cost might not be justified for younger participants. A solution would be to route younger participants into an allocation based solely on age, transitioning them to a managed account as they develop more complex circumstances approaching retirement, the report suggests.
Towers Watson states that there are a number of ways to potentially implement this concept consistent with current regulations and discrimination testing as long as the solution remains investable for all participants.
Also, the regulatory environment could also change to more explicitly permit such a QDIA structure, similar to the recent Treasury- and DOL-issued guidance that facilitates inclusion of an annuity benefit in a TDF.
Also see: 3 considerations in choosing a QDIA
Even if that came to pass, however, managed accounts are unlikely to leapfrog TDFs in popularity as a QDIA. As of 2014, only 3% of sponsors surveyed by Towers Watson use management account services as their default option, contrasted with 86% using TDFs, and 5% using balanced or lifestyle funds. Stable value funds were used by 3% of those surveyed; both money market funds and no default option each received a 2% market share, followed by 1% for other.
Richard Stolz is a freelance writer based in Rockville, Maryland.
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