As the growth of defined contribution plans continues to outpace the defined benefit sector, the focus for those running defined contribution plan sponsors should be on meeting objectives, good governance and investment risk management. Consulting firm, Mercer, has some advice for the DC sector.
According to Mercer establishing best practices across all areas of defined contribution plan management is critical as DC plans become the primary engine for retirement for so many people around the world. It’s 10 steps that DC plans should take in 2014 are set out below
1. Redefine success: ultimately, a plan is successful if it meets plan sponsor objectives and delivers future financial security to participants
Move beyond flat metrics such as participation levels and deferral rates. Analyse all participant behaviours that ultimately drive retirement outcomes, and develop sophisticated metrics and interventions to improve those outcomes.
2. Take a broader, sophisticated approach to investment risk: A delegated investment solution may help manage risk through the lens of plan participants
Research in behavioural finance has shown that risk management involves more than just the prudent selection of a diverse set of investment options.
Support employees by tailoring the plan’s investment risk profile to participant demographics. If resource constraints exist, consider the appropriateness of employing a delegated investment solution for all or part of the plan.
A delegated approach to developing a demographically-based investment strategy leverages time while transferring fiduciary risk
3. Understand target date fund fiduciary responsibility
As an increasingly popular asset class within DC plans, target date funds have come under heightened scrutiny by the regulators and state departments (particularly in the US).
Consider whether or not the target date funds in the plan will lead to the desired retirement outcomes for the plan’s participant base.
4. Say goodbye to revenue sharing: paying administrative fees based on each fund’s level of revenue sharing may not stand up to scrutiny.
A red flag arises if some participants pay higher administrative costs simply because their fund options carry revenue sharing. Achieve transparency and level allocation of administrative fees by reducing or eliminating revenue sharing, or by allocating it back to participants.
5. Consider the impact of inflation on participants’ retirement readiness: don’t let inflation erode outcomes
Despite the low interest rate environment from 2000 to 2013, participants’ purchasing power decreased by more than 20 per cent according to a Mercer study.
Purchasing power erosion and its effect on retirement readiness can lead to workforce planning issues. Help participants address this risk by assessing the appropriateness of offering a diversified inflation option within the plan.
6. Help participants sleep at night: financial wellness can promote a more productive workforce
Employees face significant financial burdens throughout their working lifetimes, from home buying to college saving to retirement preparation. Helping them put their financial house in order not only helps them save for retirement, but can also improve engagement and decrease stress levels.
7. Address the diversification challenge: consider implementing custom funds to increase participant diversification while keeping the investment line-up lean
In an effort to avoid participant confusion and investment choice overload, 60 per cent of plan sponsors offer participants fewer than 15 investment choices and many are looking to reduce that number to 10 or less. Custom funds can provide participants with access to greater diversification through exposure to alternatives, opportunistic fixed income and real asset strategies without adding complexity to their investment decision-making process.
8. Reassess the market: the evolution of the DC market has driven changes in vendor position, strategy and focus
How long has it been since the plan was put out to bid? In response to market pressures and financial constraints many vendors have changed their strategy and target market. At the same time, plans have grown, and their needs evolved. It may be time to explore what is out there.
9. Think Beyond Borders: globalisation is here
International markets make up a larger percentage of the investable universe than US markets. Delivering streamlined access to global investment opportunities across the asset class spectrum helps address participant behavioural biases, leading to improved asset allocation decisions and ultimately enhanced retirement outcomes.
10. Keep pushing the communication envelope: employees are accessing information in new ways. Are plan communications keeping pace?
Employees are increasingly using mobile technology, and the best communicators are engaged in generational targeting and strategies based on behavioural finance. Looking ahead, the success of gamification in education and employee training can be applied to retirement and financial education. Assess how new approaches to communications and targeting can more effectively reach the various populations within the plan to help drive engagement.
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