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MVCM White Paper: An Integrated Approach to Retirement Plan Management

December 12, 2012

By Joseph Potosky & Christopher Schaefer


The Department of Labor regulations regarding ERISA-covered retirement plans that finally went into effect in July 2012 ensure that employers who sponsor 401(k), 403(b) and similar retirement plans have new standards of performance with which they will have to comply. This presents an opportunity for employers/plan fiduciaries to not only identify and execute the necessary measures to ensure their plans are fully compliant with the new regulations, but to more broadly take stock of how well their plans are serving the retirement planning needs of their employees, and take the necessary actions to improve their value in meeting those needs.

Although the defined contribution model that now dominates U.S. businesses and most public sector organizations has been in place for several decades now, survey after survey continues to show that a great many employees remain confused not only about the fees and services associated with their retirement accounts (which are the specific object of the recent DOL regulations) but also more profoundly about how to make the right investment choices to support their specific retirement objectives within the prudent boundaries of their levels of risk tolerance. Unlike the defined benefits plan environment which previous generations took for granted, the defined contribution model requires employees to become investment experts – something most of them are ill-prepared to do. What can employer/fiduciaries do to improve the present situation? In this paper we present an integrated approach to plan management that can go a long way to giving employees more power over their financial futures while ensuring that their employers are doing everything they need to for regulatory compliance.


The Three Core Competencies of Retirement Plan Management

As with other areas of business activity the concept of “best in class” applies to retirement plan management as well. There are three principal areas where plan sponsors need to invest time and effort to ensure their plans are consistent with best in class standards. These are:

  1.  Capital Markets Access: Ultimately the success of any retirement plan is measured by the extent to which the plan’s beneficiaries attain their long-term goals and enjoy a comfortable retirement. The raw materials of investment goal attainment lie in the breadth and depth of high quality assets for investment selection. Assets selected for a plan should be subject to rigorous, objective evaluation of their benefits and drawbacks. The range of available asset classes should be broad enough to facilitate properly diversified portfolios and each should contain a deep enough pool of assets from which plan beneficiaries can choose.
  2. Value for Service: The value of the services being provided to the plan by third party professionals should be commensurate both with the costs of such services and with the level of responsibility assumed by each service provider; i.e. fiduciary or non-fiduciary. An important part of value for service is benchmarking. A value for service competency that meets best in class standards will ensure that the plan sponsor is in compliance with the DOL regulations regarding reasonable-fees-for-service standards.
  3. Employee Education: With the new DOL regulations employees will have more information about fund costs and asset performance. But that additional disclosure will be of little help if the employees are basically at sea about how to approach their investment decisions. What is the right blend of equities, fixed income and other investment categories for a certain set of retirement objectives, risk tolerance and individual circumstances? What performance measures are the most useful for comparing different types of assets with their peers? What common mistakes should plan participants avoid? These are the kind of issues a good employee education program needs to address.

It is the integration of these three core competencies into a coherent, focused retirement plan program that distinguishes best in class plan management from those that fall short. In the remainder of this paper we discuss the steps plan sponsors can take to achieve this and deliver meaningful value to their employees.


Getting Started

How does a plan sponsor get started in organizing the plan’s capabilities around these three areas of core competence? A good question with which to start might be the role the sponsor intends to play and the services it intends to contract out. One thing the new DOL regulations have brought into clear focus is the definition of fiduciary responsibility in the provision of plan services. A majority of the brokers and other third party organizations that provide retirement plan services are not held to a fiduciary standard. In fact, a plan sponsor can assume, in the absence of a clear statement affirming otherwise, that none of the brokers, recordkeepers, third party administrators etc. are fiduciaries. That burden, in the absence of it being present elsewhere, falls squarely with the plan sponsor.

So the question of how to take action around organizing the plan’s capabilities is also a question of whether the plan sponsor wants to assume this responsibility directly – with all the potential liability that the fiduciary definition under ERISA entails – or whether the preferred course of action would be to identify a third party organization willing to act in that capacity and to taking a direct role in advising and (where applicable) managing the various activities falling under the three core competencies identified above.

What kind of third party organization? Since most of the professional subject matter around the core competencies involves capital markets access and investment decision making then it is logical for this organization to bring these skills to the table as a primary value proposition. Investment professionals that routinely provide retirement plan advisory services fall broadly into the categories of brokerage houses and registered investment advisors (RIAs). As a rule brokers do not incur fiduciary obligations to their retirement plan clients, while RIAs – a category that includes portfolio-centric disciplines like wealth management and asset management – do act in a fiduciary capacity when managing retirement plan assets. RIAs generally work on a fee basis as opposed to a commission structure; in other words they are paid a flat fee for their work expressed as a percentage of total assets under management. The terms of any RIA’s involvement with a retirement plan will be clearly laid out in a contract, including a statement to the effect that the RIA will manage the plan in a fiduciary capacity. So for sponsors seeking assurance that their plans are being managed in a fiduciary capacity, the RIA alternative offers a comparatively more straightforward way to proceed.

Capital Markets Access

The core quality proposition of any retirement plan is the access it offers to a broad range of asset classes – broad enough to easily facilitate a prudent level of asset diversification – and within each asset class a deep pool of suitable investments among which plan beneficiaries can choose. The majority of retirement plan structures fall short of this ideal. They may present a short list of approved investments while providing very little guidance about their characteristics, or how beneficiaries should consider each investment in the context of the entire portfolio. And the assets on the list may be “approved” for reasons other than an objective evaluation of their merits versus other investments in their peer group – such as their belonging to a fund family that has a business relationship with one of the plan service providers. That may be beneficial to the service provider and the fund family – but detrimental to the employees whose assets are under management.

A disciplined approach to the investment management process of a retirement plan includes the following specific activities:

  •  Selection of appropriate range of asset classes for core and peripheral portfolio positions;
  • Establishment of allocation models that contain an appropriate mix of equities, fixed income and alternative asset exposure for different configurations of return objectives and risk tolerance;
  • Evaluation of investment selection candidates for each applicable asset class, applying rigorous, objective quantitative and qualitative performance measurement criteria;
  • Due diligence and ongoing monitoring of assets to ensure compliance with investment policy and continued suitability for plan portfolios.

Proper implementation of these capabilities will facilitate robust capital markets access and a sound, integrated approach to the management of plan portfolios.

Value for Service

A value for service approach tells plan sponsors whether the time, effort and money spent on plan services is reasonably in line with the value delivered by those services or whether there are divergences. Value for service is a big part of the focus of the new DOL regulations. Now that plan sponsors are required to disclose itemized fees and services, they are also expected to provide evidence that the relationship between the fees and the services is reasonable. What is reasonable? Characteristically nobody spells it out, leaving room for uncertainty and potentially for non-compliance. The best place to start in organizing a value for service competency is with a benchmarking process. But again, there are different levels of detail and thoroughness when it comes to benchmarking.

There are a number of specialized firms that provide benchmarking services to retirement plan sponsors. If the plan sponsor opts to engage a Registered Investment Advisor to direct overall plan services that RIA will most likely be able to evaluate and select a benchmark provider that is right for the plan’s own individual circumstances. A comprehensive benchmarking process would include the following specific areas of evaluation:

  •  Selection of appropriate peer group. Plans differ widely – for example a small business owner with less than $2 million in plan assets under management should not be considered in the same peer group as the plan for a multi-billion dollar corporation with thousands of employees. The peer group should be comparable but should also include enough data points (i.e. number of plans in the peer universe) to be statistically significant.
  • Comprehensive analysis of fees and expenses. This includes overall fees, fees paid to service providers (and notice of whether those services are provided in a fiduciary context or not), and fees paid to investment managers. Each category of fees should include relevant ranges (highs, lows and averages) and enough intervals (e.g. Very High – Above Average – Average – Below Average – Very Low) to give the sponsor clear insight into where the plan fits.
  • Evaluation of plan complexity and services offered. This category is important because there is a close relationship between the complexity of a plan and the professional services in place to manage that complexity. Even among a group of peers, any given plan may be quite different in complexity from the others along any number of evaluative lines. So if Plan ABC has a relatively lower degree of complexity than Plan XYZ, one of the benchmark peers, then ABC should potentially not be unduly penalized for not having some of the services XYZ employs. This makes for a more meaningful apples-to-apples comparison.
  • Evaluation of appropriate plan success metrics. A plan’s success is typically measured by the rate of buy-in (employees contributing to the plan as a percentage of total employees) and other metrics like the number of employees maxing out the employer matching level, number of employees with defined retirement goals etc. This is a way for the plan sponsor to gauge how much value the plan is providing (or is perceived to be providing) to the employees.

Benchmarking is a useful way to pinpoint all the areas where the plan sponsor (and the sponsor’s advisor) should target improvements and establish a practical road map to achieving those improvements.

Employee Education

More than 35 years after the introduction of ERISA, most employees today still do not have a clue about how to go about managing their retirement portfolio in a logical, practical way. Over this time period the investment world has grown increasingly complex and global, leaving most people without the expertise or resources to understand even the basics about portfolio construction, diversification, asset class selection and so forth. Moreover there are certain investment habits that are recommended for long-term attainment of goals, and others that can be costly mistakes (mistakes into which many unsuspecting investors fall).

Employee choices, of course, flow naturally from the actual list of assets offered by the plan. To the extent these choices are unduly influenced by the interests of non-fiduciary brokers or recordkeepers the result may be portfolios that are far out of line from acceptable diversified allocation practices. Remember that the burden falls to the plan sponsor (or to a clearly designated fiduciary manager) to demonstrate that plan accounts are structured along the lines of prudent allocation practices.

A good employee education program needs to go hand-in-hand with a strong investment management process in relation to plan assets (see “Capital Markets Access” above). Employees need to see that there is an investment approach that delivers on the education they receive about how to plan for retirement effectively. The education should consist of a variety of formats (e.g. group and one-on-one meetings, written communications, periodic workshops) around topics such as the following:

  •  Portfolio Planning and Lifecycle Investing: how an individual’s return objectives, risk tolerance, time horizon and other considerations change as he or she phases through different cycles of life. The concepts of return and risk are the key to understanding how to invest wisely for the long term and anyone with a portfolio of any size needs to have a certain fluency with them.
  • Asset Classes and Allocation Weighting: Employees reading through a list of investment funds will have little idea how to map the selections to the service of specific portfolio objectives. “U.S. Equities” is not an asset class – that category requires further parsing into large cap, small cap, value versus growth etc. Emerging markets equities are not the same thing as “non-U.S. equities”. Fixed income consists of multiple exposure considerations. Employees do not need to be experts on these topics, but they need enough knowledge to understand the very important implications they have for their asset choices.
  • Good Investment Habits: Employees need to understand how to make their contribution dollars go farther, and to avoid the pitfalls so many inexperienced investors fall into. A disciplined long-term investment approach includes periodic rebalancing (a rebalancing mechanism should be a specific investment service the Capital Markets Access competency offers), gradual asset class re-weighting (in line with changing time horizons etc.), understanding the emotional/behavioral element of investing (systemic behavioral mistakes) and simple tools the employees can employ on an ongoing basis to stay on top of their retirement prospects.

For a plan sponsor, a high quality employee education program is potentially the key, not just to improving the value of the plan in the employees’ eyes, but to directly reducing one major stress factor in their lives and giving them a feeling of empowerment over their financial futures. The rewards to a business owner can be immeasurable.

Measuring Operational Effectiveness

Is there a relatively quick and transparent metric plan sponsors can use to assess the operational effectiveness of their current plans and thus evaluate the level of urgency for taking action? Here are three relatively straightforward ways to take stock of the current situation:

  1.  What is the current plan participation rate? A healthy rate would be somewhere in the 80% - 90% range. Less than 65% participation is a sign of a fundamental problem – employees are not using the plan in a meaningful way and are probably ill-informed about its benefits and importance to them. Bear in mind the many statistics out there showing that a vast many people fail to save adequately for retirement even as they head into their 40s and 50s – the beginning of the critical savings years.
  2. How much income are plan participants contributing each month – i.e. what is the plan’s average deferral rate? This is a separate metric from the participation rate. Often it will be driven by the employer’s matching policy (and a plan sponsor needs to have clear guidelines for its matching commitments in place). But as a matter of course a plan sponsor should be concerned if the average deferral rate is less than 4%.
  3. What are the plan participants invested in? Are they using prudent allocation models such as described elsewhere in this paper? Or, at the very least, allocation funds or target date funds oriented specifically towards retirement plans? Prudent allocation, in line with a participant’s own retirement objectives and risk tolerance, is arguably the single most important ingredient to the ability of a plan participant to lead a safe and comfortable retirement. If participants are invested in a hodge-podge of different funds that do not reflect a professionally developed allocation strategy to meet the retirement objectives of the plan beneficiaries then even a high participation rate and deferral rate won’t atone for the fact that the plan is not operating effectively.  This may be the result of a number of factors including broker commission objectives, lack of an education program or a poorly executed program.


Defined contribution plans are the dominant means of retirement savings for employees of U.S. private sector (and many public sector) organizations today. Despite having been around for a number of years now, these plans broadly speaking have not delivered the level of value to employees that they potentially are capable of. The recent regulatory initiatives undertaken by the Department of Labor to improve the transparency of plan management and raise the performance standards are an attempt to redress some of the more apparent deficiencies, but they do not go all the way in setting out a value proposition that can make a meaningful difference to those who matter most in the equation – the employees whose retirement livelihood depends on the success of the plans.

Filling in the missing pieces falls to the plan sponsor – and given the complexities of the modern investment world and the volume of information needing to be mastered, business owners with precious little time in their days as it is need to enlist the support of a trusted advisor to help them put a best-in-class plan in place. That plan should be built around three key core competencies: capital markets access, value for service and employee education. An integrated, thorough approach to these three competencies with the right advisor and team of professional service providers can result in robust retirement plans that do more than just comply with federal regulations – but also increase the satisfaction and productivity of employees who feel more empowered about managing their financial destiny to a fulfilling retirement.

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