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Market Volatility Leaves Many Wondering About Safe 401(k) Plan Investments

April 7, 2009
When Congress three years ago passed the Pension Protection Act, which among other things gave 401(k) plan sponsors approval to automatically enroll employees into target-date funds, regulators and industry experts alike agreed that these investment options were safe enough for employees to stay invested for the entire course of their careers.

But after months of severe market volatility, experts and regulators are wondering whether these qualified default investment alternatives, or QDIAs, are the most appropriate investment options for all 401(k) plan participants.

On March 26, U.S. Labor Secretary Hilda Solis announced her agency would coordinate a review of target-date funds in conjunction with the Securities and Exchange Commission.

Target-date funds automatically reallocate from equities to fixed-income securities as they approach their stated retirement date. In a letter to the Senate Special Committee on Aging, Solis wrote that the Labor Department’s main concern related to how much equity some funds are holding as they get closer to the date of retirement.

The primary issue with target-date funds is that they have very different glide paths, or paths from aggressive to conservative, said Robert Liberto, senior vice president of Segal Advisors. One target-date fund with the retirement date of 2010 might have a 40 percent allocation in equity while another might have a 20 percent allocation, he said.

“There are major differences in how these funds are set up,” Liberto said.

Target-date funds seem simple, which is why plan sponsors like them, but in fact, they can be more complicated, said Don Stone, president of Plan Sponsor Advisors, a Chicago-based 401(k) consultant.

“If things look simple on the surface, then you aren’t digging deep enough,” he said.

The Labor Department may end up advising that employers offer three different glide paths for target-date funds with years close to retirement, said Dallas Salisbury, president of the Employee Benefit Research Institute.

For example, a sponsor might have conservative, moderate and aggressive 2010 target-date funds.

“That could mean the employers would be working with three different providers,” he said.

While regulators wrestle with the issue of target-date funds, some experts are wondering whether they might reconsider adding stable-value funds as qualified default investment alternatives. When Congress introduced the QDIAs in 2006, there was a lot of pushback from the insurance industry that stable-value funds, which are designed to provide a guarantee through an insurance wrapper, should be added to the list. But Congress and the Labor Department didn’t budge.

Now, however, many wonder whether that might change. “Given the market volatility it wouldn’t surprise me if the Department of Labor looked at stable-value funds again,” Liberto said.

Recent months of market losses have left everyone wondering what investments are safe, Salisbury said.

“Essentially, the QDIAs were chosen based on accepted traditional investment theory, which at least in this cycle has been proven wrong,” he said. “It is particularly difficult for Congress and the Department of Labor to figure out what is safe.”

Regardless of the market uncertainty, Rep. Robert E. Andrews, D-New Jersey and chairman of the Subcommittee on Health, Employment, Labor and Pensions, said Congress has no immediate plans to make changes to the QDIAs.

“There is no discussion to revise the QDIA,” he said at a breakfast meeting hosted by Barclays Global Investors in New York on Tuesday, April 7. “Our view is that we want to see how it works before we revise it.”

—Jessica Marquez

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