QDIAs

Make investing easier with a default option for growth

Retirement plan participants sometimes struggle with figuring out how to invest their contributions. Perhaps that is why recent trends have seen many individuals forgo making these decisions themselves, opting instead to use professionally managed investment options.

According to data published by Vanguard, 36% of all Vanguard participants had their entire account balance invested in a single target-date fund, a single target-risk or traditional balanced fund, or a managed account advisory service in 2012 (compared with just 17% in 2007). The company believes that the growing popularity of these options demonstrates “a shift in responsibility for investment decision-making away from the participant and back to employer-selected investment and advice programs.”¹

To make investing easier for participants, all of the investment options mentioned above can be used as qualified default investment alternatives (QDIAs) within a retirement plan.

A QDIA is an investment fund that can keep your client’s plan running smoothly if employees enroll but don't provide investment direction for their assets. Contributions are automatically invested in this fund unless employees make an alternative investment election.

The following investment types have been approved by the Department of Labor as acceptable default investments that may meet QDIA requirements:

• Balanced Funds – designed to meet the needs of participants with a balanced mix of stocks and bonds
• Lifecycle Funds – designed to meet participant needs based on participant age, a target retirement date, or life expectancy
• Managed Accounts – accounts managed by an asset allocation service
  
  

It used to be that the default investment option for employees enrolled in their company’s retirement plan generally focused solely on capital preservation. Unlike “cash equivalent” savings instruments like money market funds that struggle to keep pace with inflation, QDIAs are growth- and diversification-oriented investment alternatives that today’s employers can put in place for employees who don’t feel comfortable allocating assets on their own. Knowing that their money will be invested in a diversified, professionally managed fund can help them feel better about their contributions.

A QDIA can be especially helpful for employees who have been automatically enrolled in a retirement plan, as it provides an instant, disciplined investment program. PLANSPONSOR’s 2012 Defined Contribution Survey revealed that 82% of plan sponsors use a QDIA as the default investment for participants who are automatically enrolled in their defined contribution plan.²

Despite this number, there are still opportunities to make plan sponsors aware of how a QDIA can encourage better long-term savings rates for participants while providing fiduciary protection for employers. “I am still surprised by how many plan sponsors are unaware of these protections,” says Kathleen Connelly, executive vice president of Client Service at Ascensus. “The amount of education that a plan sponsor has on this subject definitely influences its decision on whether or not to use a QDIA with its plan.”³

You can help your clients understand how a QDIA can work for them by presenting it as a win-win situation. For example, by selecting a QDIA as the default investment for their plan, they not only help their employees invest for retirement, but they are also relieved of fiduciary liability related to the fund's performance. Further QDIA benefits are listed in the table below.

QDIA Benefits

Employer	Participant
Easy to implement	Provides a simple way to start saving
Simplifies plan management	Ensures that assets are invested in a qualified fund
Includes fiduciary protection	Provides automatic diversification and a better risk-reward balance

A QDIA may be the answer for clients looking to help employees get invested, whether they are automatically enrolled in a plan or if they feel that they aren’t knowledgeable enough to pick funds from a plan lineup. Talk to your clients about how these funds give employees a default investment option to start and grow their retirement savings.

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1 Source: Vanguard, "How America Saves 2013: A report on Vanguard 2012 defined contribution plan data." June 2013. https://pressroom.vanguard.com/nonindexed/2013.06.03_How_America_Saves_2013.pdf.
2 Source: PLANSPONSOR 2012 Defined Contribution Survey, quoted in Yoon, JooHee. "Feature: Safe Harbor Investments." PLANSPONSOR, July 2013. http://www.plansponsor.com/MagazineArticle.aspx?id=6442494057.
3 Source: Yoon, JooHee. "Feature: Safe Harbor Investments." PLANSPONSOR, July 2013. http://www.plansponsor.com/MagazineArticle.aspx?id=6442494057. 

Asset Allocation Models, Target-Date Funds, and Automatic Rebalancing

Make diversifying and rebalancing accounts easier for employees

Historically, employees who didn't have the experience to make informed investment decisions were overwhelmed and intimidated by the prospect of manually diversifying and rebalancing their accounts.

With today’s retirement plans, you can provide your clients with access to asset allocation models, target-date funds, and automatic rebalancing so that their employees can easily manage their savings based on their personal risk preferences and goals.

Asset Allocation Models

Asset allocation models are built with a mix of investments across different asset classes. These models are created with specific investor profiles (e.g., conservative, moderate, aggressive, etc.) in mind to help align with particular objectives and risk tolerance.

When participants choose an asset allocation model that fits their personal savings goals, smart investing becomes quick and easy. Rather than selecting a number of individual investments, they can choose one of several portfolio models based on their age or risk tolerance.

In addition to reducing the number of choices that participants have to make, these models foster a disciplined approach to investing through built-in benefits such as proper diversification and rebalancing. Perhaps most importantly, they can help participants stay invested through extreme changes in the market. At Ascensus, we tracked plan participants who were invested in asset allocation models from the beginning of 2009 and through the end of 2011. In arguably one of the most volatile market periods ever, over 98% of those participants remained invested in asset allocation models.¹

Target-Date Funds
Like asset allocation models, target-date funds allow employees to choose a single, diversified investment option. However, the asset mix is adjusted toward more conservative allocations based on a specified target date.

The ease with which a target-date strategy can be implemented makes it a popular choice in retirement plans. According to Morningstar’s 2013 Target-Date Series Research Paper, target-date funds saw almost $55 billion in net new flows in 2012, bringing their total to nearly $485 billion. In the first quarter of 2013, target-date assets crossed the $500 billion threshold after taking in an additional $23 billion in new assets.²

Automatic Rebalancing
One of the most attractive features of asset allocation models and target-date funds is automatic rebalancing, which mitigates the redistribution of employees’ assets due to an up or down market. This can help make sure that employees’ investment strategies stay appropriate for their current goals, risk tolerance, and circumstances. Target-date funds are rebalanced on a schedule determined by their portfolio managers, while the employer selects the frequency (quarterly, semi-annually, or annually) with which asset allocation models are automatically rebalanced.

Automatic rebalancing may also be offered to employees as a standalone option outside of target-date funds and asset allocation models. This allows them to automatically have their account balances redistributed at a schedule they choose according to their investment elections at the time of rebalancing.

Research has shown that the portfolio rebalancing system is an effective way to help ensure that employees stay on track with their retirement saving strategy. Forbes compared two portfolios each starting with a $10,000 investment beginning in 1985 and ending in 2010. Both portfolios began with a 60/40 mix of stocks and bonds; one was never rebalanced, while the other was rebalanced annually back to its original target. At the end of the 25-year period, the rebalanced portfolio ended with a higher balance ($97,000) than the un-rebalanced portfolio ($89,000).³

Concepts like diversification and rebalancing can be overwhelming for employees participating in your clients’ retirement plans. Providing access to asset allocation models, target-date funds, and automatic rebalancing allows your clients to simplify those concepts so they can help their employees move closer to achieving their retirement goals.

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1 Source: Ascensus data, December 2013.

2 Source: Morningstar Fund Research, "Target-Date Series Research Paper 2013 Survey." June 2013. http://corporate.morningstar.com/us/documents/ResearchPapers/2013TargetDate.pdf.

3 Source: Brown, Janet. Forbes, "Does Portfolio Balancing Work?" November 16, 2011. http://www.forbes.com/sites/investor/2011/11/16/does-portfolio-rebalancing-work/.

Automatic Escalation

Strengthen employee saving habits with regular deferral increases

An earlier blog entry that focused on automatic enrollment discussed how this modern retirement plan feature simplifies the enrollment process for employees. It also noted that automatic enrollment is as effective as it is convenient: Participation rates among Ascensus plans that adopt automatic enrollment are almost 10% higher than those in plans that don’t.¹

Encouraging responsible savings habits can certainly start with automatically signing employees up for a plan. Once enrolled, however, most employees are content to simply leave their default deferral percentage—often between 3% and 4%²—untouched. More is needed to get them to prepare for the future through the use of higher deferral rates.

Today’s retirement plans utilize automatic escalation to boost savings rates among employees instead of relying on manual deferral increases that are unlikely to be elected.

Automatic escalation allows employees to gradually increase their deferral rates over time. The increases needn't be dramatic—upping deferral rates by just 1% each year can have a meaningful impact on retirement savings balances. When deferral rates are raised in tandem with an annual increase in pay, employees are less likely to notice the effect it has on their paychecks.

Support for automatic escalation of deferral rates has been growing. Ted Benna, creator of the first 401(k) retirement savings plan, has stated that he would make it mandatory for every company with such a plan to automatically enroll employees at 3% of pay and automatically increase that number by 1% every year to a maximum of 10%.³

Research conducted by WorldatWork and the American Benefits Institute suggests that Mr. Benna’s recommendations are being heard, as a survey of employer-sponsored retirement plans showed that 97% of companies that offer automatic escalation increase the default by 1% each year.⁴

At the employee level, plan features like automatic escalation can significantly affect how savers view their retirement security. Recently published findings by Putnam Investments revealed that employees using auto escalation were more confident about their retirement than those who didn't use the feature. In addition, households using automatic escalation had higher investable assets and a slightly higher average deferral rate.⁵

Plans that use automatic features are likely to see improvement in helping employees save for retirement. Automatically enrolling employees and gradually increasing their salary deferral rates over time can put them in a better position to achieve retirement readiness.

1 As of February 1, 2012.

2 Source: WorldatWork and the American Benefits Institute, "Trends in 401(k) Plans and Retirement Rewards." March 2013. http://www.americanbenefitscouncil.org/documents2013/abc-waw-surveytrendsin401kplans-2013.pdf.

3 Source: Kujawa, Patty. Workforce, "A ‘Father's' Wisdom: An Interview With Ted Benna." January 20, 2012. http://www.workforce.com/articles/a-father-s-wisdom-an-interview-with-ted-benna.

4 Source: Source: WorldatWork and the American Benefits Institute, "Trends in 401(k) Plans and Retirement Rewards." March 2013. http://www.americanbenefitscouncil.org/documents2013/abc-waw-surveytrendsin401kplans-2013.pdf.

5 Source: Van Harlow, W. Putnam Investments, "Lifetime Income Scores III: Our latest assessment of retirement preparedness in the United States." April 2013. https://www.putnam.com/literature/pdf/DC939.pdf.