What most employees really want is an expert manager who will do the choosing for them. Employers are listening, and so is Congress. The new Pension Protection Act, passed in August, gives strong encouragement to plans to find better ways of helping their workers invest and save.
Employees with 401(k)s fall into roughly two camps: reluctant savers, who think they can’t afford to put any money away, and nervous investors, who save but aren’t sure how to manage the money. (There’s a small group that loves to fiddle with their 401(k)s, but it’s barely visible.) Here’s what the new law wants–but doesn’t require–employers to do:
For nervous investors. You want direct, professional management and advice. Many companies haven’t wanted to add this option to their plans for fear they’d be held responsible if you lost money. Congress erased that potential liability. As a result, you’ll see more of the following:
Advice online . Computer software will look at your personal situation and advise you on which of the mutual funds in the plan to choose. There may also be a telephone backup so you can ask a real person what to do. But will you do it? “Only 20 percent of employees access advice when it’s offered,” says Pam Hess, senior retirement consultant for Hewitt Associates. “Of those, only 5 to 10 percent actually implement it.” No surprise there. The humorist Ambrose Bierce defined advice as “the smallest current coin.”
Advice from salespeople. New firms are entering the field to offer advice software to the brokers, planners and insurance agents who typically sell 401(k)s to smaller companies. They’ll provide seminars and personal visits as well as online tools.
One important thing to know about 401(k) advice in any form: under the new law, the same firms that supply funds to the plan can also give advice on what to buy. They couldn’t do that in the past. It’s an obvious conflict of interest. But Congress, under heavy pressure from the financial industry, changed the rules. There are two limitations intended to keep the advisers fair. Their recommendations have to be based on an objective computer model; alternatively, the advisers have to get the same fee, regardless of which funds they pick. Will it work? I dunno. Still, you’ll probably get a better mix of investments than you’d choose yourself.
Lifecycle or “target date” mutual funds. These funds have advice built in. They each carry a date, such as 2015, 2020 or 2030. You pick the one closest to the year you’ll be 65, put all your money there and relax. The fund gives you a mix of stock and bond funds that’s always appropriate for your age. Carl Londe of ProManage, who offers managed accounts to smaller firms, calls lifecycle funds the “real competition,” and great for nervous investors.
Managed accounts. These should grow into big winners because they satisfy everything most employees want. You don’t have to bother with advice. Instead, you turn over your 401(k) to an adviser to manage for you. This option is available already, in plans served by Schwab, Financial Engines, Fidelity, Ibbotson Associates, Morningstar, Merrill Lynch and others. The managers choose the funds, allocate your money and rebalance your portfolio, so you don’t have too much money at risk in a particular type of investment. Rebalancing is an especially valuable service; investors rarely do it themselves, and it’s a great way of staying out of serious trouble.
Conflicts of interest shouldn’t be a risk, because managed accounts are required to use the advice software of independent third parties, says Liz Michaels, Ibbotson’s vice president of advice. Christopher Jones of Financial Engines says that growth improves by an expected average of 0.5 percent to 3 percent annually when an expert takes over your 401(k).
For reluctant savers . The pension law also pushes autopilot 401(k)s. If new employees don’t join the plan themselves, they can be signed up automatically. Their investments might go into lifecycle funds, balanced stock-and-bond funds or managed accounts. The plan can even raise your contribution every year. Terri Fox, the financial-benefits manager for Texas Instruments, sees autopilot as the best way of helping people who are baffled by investment choice. New TI hires who don’t pick their own funds are put into managed accounts. At T. Rowe Price, the majority of autopilot clients use lifecycle funds.
No one has to join an autopilot 401(k). They can opt out. But once in, they tend to stay there and accumulate money in spite of themselves. That’s what it will take to make retirement plausible, especially for middle earners. Is this paternalistic? You bet! Maternalistic, too. And sometimes, your parents are right.
