A (Nearly) Perfectly Implemented Investment Strategy for a 401(k) Plan


We recently transitioned a client to a new, fully "open-architecture" plan provider - smoothest conversion we have ever been through. One of the benefits this particular provider allows us is the ability to build pre-allocated, model portfolios that we as the investment advisor and ERISA 3(38) "Investment Manager" have the responsibility to manage and rebalance on an ongoing basis.  

As readers of my book know, I am a big advocate of this approach rather than allowing participants to completely self-direct. To help employees use the plan more effectively, we conducted a series of in-person presentations for local employees and webinars for remote participants, with a focus on educating them about sound investing principles, how a model portfolio works and the benefits of such an approach, and how to use these options correctly (i.e. by putting 100% of their balance and contributions in a model rather than incorrectly diversifying amongst multiple models and/or individual asset class investments).

For some background, we've created 5 primarily passive portfolios with blended expense ratios between .25% and .40% and with the following allocations:

Conservative - 20% equities / 75% fixed income / 5% real assets

Moderate - 30% equities / 60% fixed income / 10% real assets

Balanced - 40% equities / 45% fixed income / 15% real assets

Growth - 55% equities / 30% fixed income / 15% real assets

Aggressive - 70% equities / 15% fixed income / 15% real assets

We also included the Vanguard Balanced Index Fund (with an approximate allocation of 60% equities  / 40% fixed income and an ER of .25%) as the default fund for terminated participants who still have a balance in the plan. These participants were mapped into this fund at conversion.  Currently, the plan has 89 total participants, with 69 active and 20 terminated participants with a balance in the plan above $5,000 (and thus, couldn't be automatically forced out of the plan).

I was analyzing some data this week and was really excited by what I found. Of the 69 active participants, 65 chose a model and used it correctly (for a success rate of 94%).  If you factor in the 20 terminated participants who were defaulted into the Vanguard Balanced Index fund, the total number of participants who are successfully positioned with a low-cost, well-diversified portfolio climbs to 85 of 89 (for a success rate of 96%), with only 4 participants choosing to self-direct.  

Overall, I am ecstatic with the results so far.  Such a high quality, low cost, professionally managed (and cohesive) investment strategy plan should go a long way to helping these participants retire more successfully and with meaningful benefits. Oh, and we cut the total fees for participants nearly in half while allowing the trustees to delegate the discretionary authority for the plan investments to our firm, thereby transferring a significant portion of their liability and reducing their personal (and corporate) risk.

I couldn't have asked for a better outcome thus far.  I just wish more plan sponsors would understand and "buy in" to this approach because there truly is no better way to design and implement an investment strategy for a participant-directed plan within our country's current retirement system.