Wednesday, January 04, 2006

(Not) Getting It?

Call me old-fashioned, but at a time when it seems like everyone is advocating “automatic” solutions to get participants to do the right thing(s) about saving for retirement, I can’t help but wonder at the irony of participation solutions that don’t require a “participant” to participate.

In the last of this series, IMHO takes a look at what seems to be the underlying logic behind the automatic alternatives – that participants don’t, or won’t, “get it.” As always, I would appreciate your reactions, comments, and suggestions.

One of the more pervasive themes about retirement plan investors is that they don’t know what they’re doing, generally accompanied by some sort of subtextual survey that purports to prove the point; workers don’t participate as they should, participants don’t save enough, don’t allocate their retirement plan investments sufficiently or regularly. In sum, retirement plan participants just don’t get it. As easy as it seems sometimes to find fault with how participants behave (or fail to), there is, IMHO, plenty of evidence that they do, in fact, “get it.”

For example, we decry the failure of all workers to take advantage of these programs, and point to overall participation rates of 75% as a signal failure of the defined contribution system. But that failure is apparently not because they don’t understand the need, or lack the desire – any number of surveys point to a growing awareness here. Sure, younger workers have a natural tendency to postpone retirement savings in favor of things closer to the here and now – and there are certainly those who simply fall prey to inertia and fail to return that enrollment form. But I would suggest to you that for many, if not most, the real determinant is not awareness, interest, or concern; it’s a simple matter of economics. Simply stated, the more money you make, the more likely you are to participate, and at higher rates. Consequently, those disappointing participation statistics probably tell us as much about disposable income and job security as they do the success (or failure) of plan design and participant education.

There is, of course, the impact of the company match – or more accurately, the “free money” represented by its availability. It may seem foolish for workers not to take advantage of it, but if you are having trouble making ends meet, the “free” money isn’t without strings – it requires an economic choice. On the other hand, numerous studies have demonstrated the correlation between a company match and participation, so clearly the free money message has resonance, even to the point of influencing how much workers choose to save (there is a demonstrated tendency of plan deferral rates to cluster at the level of the match). Clearly, participants do “get it” with regard to the benefits of a company match, even if that means that they aren’t always deferring as much as they should.

Then, there is the concern about making investment choices. Granted, many participants aren’t comfortable making this decision, but the most compelling evidence that participants do “get it” with regard to investment choices was found in a study done by the Vanguard Center for Retirement Research a couple of years ago. That study found that, during the second half of 2003, as a result of the continued upswing in stock prices, the percentage of contributions allocated to stocks among new participants rose to 66% - a sharp contrast with the less than half (48%) by new participants in the first half of the same year, when the stock markets were still struggling. Moreover, Vanguard noted that the trend was also in evidence during the bull market. For example, participants who enrolled in 1999 and 2000 contributed about 72% to equities and just 28% to fixed income. Clearly, participants “get it” – at least at the point of enrollment. They understand stocks versus bonds, they understand market risk, and they appear to understand past performance – they just don’t seem to understand the importance of revisiting those understandings on a regular basis. In fact, the Vanguard study noted that those participants who enrolled in 1999 and 2000 were STILL allocating nearly three-quarters of their contributions to stocks, well after a prudent evaluation might have suggested an alternative course.

We have solutions for that inattentiveness to rebalancing, of course, the most common, these days, being a lifestyle/lifecycle fund. However, participants apparently even have trouble using the lifestyle/lifecycle “pick one” option. Some of the blame for that no doubt lies with how the original lifestyle funds were positioned (few are comfortable with a label like “conservative” or “aggressive” when it comes to investments). But think about how long we have spent teaching participants about the importance of diversification and the dangers of “putting all your eggs in one basket” – and then think of the “just pick one” message of the lifestyle fund. Do they not “get it” – or are we the ones who fail to understand that the new message runs directly counter to what we have been telling them all along?

I began this series because I think an unengaged participant investor is an investor at risk, and I worry that many of the automatic solutions are, or will be, used as substitutions for engaging participants. I also believe that a participant who is engaged is better suited to appreciate the benefit of an employer-sponsored retirement plan, is more likely to take appropriate advantage of those programs – and ultimately, is more likely to appreciate the counsel and support of a trusted financial advisor.

Here’s hoping 2006 brings us a higher level of participant engagement than ever before.

- Nevin Adams

Editor’s Note: For more about the Vanguard studies, see Starting point anchors focus at, and Past Performance Pulling Participant Allocations: Vanguard at

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