Defined contribution plans saw a move toward professionally managed allocations in 2011, according to Chris McIsaac, managing director of Vanguard’s Institutional Investor Group.
In the company’s new analysis of Vanguard’s defined contribution plans called “How America Saves 2012,” it found that one-third of all Vanguard participants had their entire account balance invested in either a single target-date fund, a single target-risk or traditional balanced fund, or a managed account advisory service, McIsaac said. At the end of 2005, just 9 percent of Vanguard participants were invested in an automatic investment program.
“These professionally managed investment options have the potential to reshape retirement savings outcomes for these participants,” he said. “They signal a shift in responsibility for investment decision-making away from the participant and back to employer-selected investment and advice programs.”
Twenty-four percent of all participants were invested in a single target-date fund; another 6 percent held one traditional balanced fund; and 3 percent used a managed account program, the report found.
Professionally managed accounts benefit participants who have never invested in their company 401(k) or 403(b) plan before because they take the decision-making out of the hands of the participants, many of whom don’t understand investing and never took an active hand in managing their retirement accounts. In 2011, 72 percent of new plan participants were solely invested in professionally managed allocations.
“Because of the growing use of target-date options, we anticipate that 55 percent of all participants and 80 percent of new plan entrants will be entirely invested in a professionally managed allocation by 2016,” the report stated.
Growth in the use of target-date funds over the past seven years has more than tripled, with 82 percent of plan sponsors offering the products in 2011. At least in Vanguard’s case, 47 percent of all participants are using target-date funds and 52 percent of participants owning target-date funds have 100 percent of their account in a single target-date fund. Nearly one-quarter of all Vanguard participants are wholly invested in a single target-date fund, either by choice or by default.
The qualified default investment alternative (QDIA) rules put in place by the Pension Protection Act of 2006 have helped the growth of target-date and professionally managed accounts in defined contribution plans.
As of year-end 2011, two-thirds of Vanguard DC plans had a designated QDIA for automatic enrollment or default purposes.
Only 3 percent of Vanguard plans with automatic enrollment still use a money market or stable value fund as their default investment, down from 25 percent in 2005.
The majority of participants had account balances that were higher than in 2010, with the median account balance being $25,550 and the average being $78,276. Participants who contributed in both years saw their median account balance rise by 10 percent from 2010 to 2011, largely reflecting the effect of ongoing contributions, the report said. During 2011, eight in 10 participants saw their account balances stay the same or rise. Over the five-year period ending in 2011, the median account balance for continuous participants rose by 58 percent and more than 80 percent of participants saw account balances rise.
In 2011, the participation rate was 76 percent with an average deferral rate of 7.1 percent. The median deferral rate stayed the same at 6 percent. Average deferral rates peaked at 7.3 percent in 2007.
“The decline in average contribution rates is attributable to increased adoption of automatic enrollment. While automatic enrollment increases participation rates, it also leads to declining plan contribution rates because default deferral rates are typically set at 3 percent or lower,” the report stated.
According to the report, automatic enrollment features have quadrupled since 2005. At the end of 2011, 29 percent of Vanguard plans had adopted automatic enrollment, up 2 percentage points from 2010. In 2011, 50 percent of large plans had an automatic enrollment feature, compared to 45 percent in 2010.
Most plans, eight in 10, applied auto enroll features to new plan participants only. Seven in 10 automatic enrollment plans implemented automatic annual deferral rate increases, up from three in 10 in 2005. Almost all plans with automatic enrollment, 97 percent, defaulted participants into a balanced investment strategy—with nine out of 10 choosing a target-date fund as the default.
Forty-six percent of Vanguard plans adopted a Roth feature and 9 percent of participants had elected the option. Vanguard predicts steady growth in Roth adoption rates because of the tax diversification benefits the feature affords.
Because of the recent focus on plan fees, many plan sponsors have started offering a wider variety of low-cost passive or index funds. In 2011, 44 percent of Vanguard plans offered a set of options providing an index core. The market downturn hit equities the hardest. In 2011, the percentage of plan assets invested in equities was 65 percent, down from 68 percent in 2010 and 73 percent in 2007.
Most of this movement resulted from plan participants shifting assets to fixed income holdings on a net basis. One in five participants has taken an extreme position with equities, holding either 100 percent in equities (10 percent of participants) or no equities (8 percent of participants).
Since 2008 and 2009, new participants have adopted more conservative equity allocations, the study found.
It also found that participants are not trading as much within their retirement accounts. During 2011, only 11 percent of plan participants traded in their accounts. In 2008, 16 percent of plan participants traded.
Vanguard has been publishing “How America Saves” since 2000, which was based on 1999 data. The company serves 1,700 plan sponsors and more than 3 million participants in its defined contribution recordkeeping business.
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