Fund managers should consider improving target-date fund disclosure to better align these products with the individual risk tolerance of investors, particularly in light of increased regulatory scrutiny over the performance of these funds in 2008, a retirement income expert says.
Jamie Kalamarides, senior vice president of retirement solutions at Prudential Retirement, recently spoke with Money Management Executive about improvements to the retirement income product lineup, annuity wrappers for 401(k) plans and multi-employer savings plans for small businesses.
MME: Is the current lineup of available retirement products meeting the needs of investors?
Kalamarides: Events of the past 18 months have clearly shown that we can create better outcomes for individuals. Our research found that six in 10 Americans are worried about retirement. I don't think the system is broken, but I think we can do a lot better with the tools we have in place and add some new tools as well.
There are three major issues that retirement plans need to address: coverage (making sure people have access to a plan), adequacy (making sure people are saving enough), and longevity (making sure they don't run the risk of outliving their assets).
MME: What are some winners and losers in the retirement income product space?
Kalamarides: I think it's obvious that target-date funds are here to stay. They are a great product-based solution to the question of "Where do I invest my money and make sure I'm diversified?" The challenge is that they don't address two major issues that investors have. The first is, "How do I make sure that I build up a seed amount of investments in the beginning, and feel comfortable about investing before I expose my savings the volatility of the market?" That requires a stable-value offering; one that has a guarantee of interest and principal.
The other thing that I think target-date funds need to address is how to prevent downside risk near retirement and then provide lifetime income. We're seeing an emergence of lifetime income products out there. I think these types of products-along with stable-value offerings-are going to have an increased prominence in investors' portfolios.
MME: How can target-date funds be improved?
Kalamarides: In target-date funds, investors are sometimes confused about whether or not a fund is managing to retirement or through retirement. We see the need to have better disclosure around target-date funds' asset allocation and what their time horizon is. Additionally, these funds don't always take into account risk tolerance. Some may be more aggressive, some may be more conservative and some may be moderate.
Prudential has a product called GoalMaker, which is an asset allocation tool that uses the underlying funds in a 401(k) plan to create a portfolio based on age, time horizon and risk tolerance. The reason why it uses those last two components is that it allows the person with those investments to automatically rebalance over time and become more conservative on a fully disclosed basis.
MME: Should the industry develop a naming convention for target-date funds that would give investors a better idea of their holdings?
Kalamarides: We shouldn't squelch the marketing aspects of target-date funds, but I think that we could address some of the confusion through better disclosure.
MME: How can fund companies help encourage more investors to take an active role in their own retirement planning?
Kalamarides: It's not just fund companies' responsibility to help investors take an active role in their retirement planning. Workplace-based providers like Prudential, employers, sponsors and financial advisers all share in that responsibility. Unfortunately, we know through behavioral finance research that most investors don't take an active role. The first thing we can do is help them avoid making mistakes, and we believe the best way to do that is to make it as simple as possible for participants.
Prudential introduced an approach called Redefining Retirement that we think is the best package for 401(k) plans. Specifically, it includes smart plan design, streamlined processing, automatic investments and guaranteed income, and lifelong education. By plan design, I mean automatically enrolled, automatically escalated investments into a diversified QDIA fund that turns into lifetime income. This program will solve the three major problems in the U.S. retirement system today: coverage, adequacy and longevity.
We think that we've got answers to all three of those issues, in terms of both delivery and the funds.
MME: How do you feel about putting a guaranteed income or annuity wrapper on target-date funds?
Kalamarides: Guaranteed income is an incredibly important part of a person's retirement savings, to prevent both downside risk near retirement and to solve the risk of outliving their assets. Prudential's guaranteed minimum withdrawal benefit products use a target-date fund-like structure that includes a diversified portfolio of investments. We then wrap it with a guarantee that prevents downside risk and provides lifetime income. What's unique about this product is that it allows an investor to receive a lifetime income option without annuitizing. In other words, investors have access to the principal at market value at any time without penalty. So if they decide the income option isn't right for them, they can simply opt out. We think these sorts of products and features are a crucial component of any 401(k) plan and are very important to pre-retirees.
MME: Do you think these products should be mandated in every 401(k) plan?
Kalamarides: [The Employee Retirement Income Security Act of 1974] is based on the principle that sponsors will undertake a prudent approach that's appropriate for their population. In simpler terms, they need to make decisions in plan design that they consider appropriate. I don't think that any single investment is appropriate for every single investor. However, I think that items like the Lifetime Income Disclosure Act [S. 2832, co-sponsored] by Sen. Jeff Bingaman, (D-N.M.) are common-sense, practical approaches that make sure people think about monthly income in retirement. And if you're going to think about monthly income, plan sponsors should be offering it as an option to their participants. You can't raise the important need and not provide a solution for people to satisfy the need.
MME: Can automatic IRAs and multi-employer plans really help investors?
Kalamarides: Absolutely. There are 78 million American workers who lack access to a retirement savings plan beyond Social Security. That's greater than the number of people who are not covered by healthcare. It's a barrier that surpasses low-income levels, and it's concentrated among employers with less than 100 employees. There are three barriers, we think, that small employers have in offering retirement plans: administrative burden, cost and fiduciary responsibility.
We applaud the Obama Administration in thinking about solving coverage through auto IRAs. However, we believe that a one-size-fits-all approach here doesn't work. We believe that a multiple small employer plan is an important compliment to the auto IRA concept. These plans would allow employers to pool their assets, simplify plan administration and reduce overall costs. By joining together under a single plan, these small employers could implement institutional best practices that they might not otherwise be able to offer. We think that a combination of auto IRA and multiple small employer plans would bring enough choice to the small market that we could really solve the coverage issue in America.
MME: Have you seen much interest in these products?
Kalamarides: We see tremendous interest, but I should also note that legislation is required for both the automatic IRA and the multiple small employer plan. We've been taking an active approach, talking about both since last summer, and we've seen awareness pick up dramatically in the last few months. The Obama Administration is clearly interested in solving coverage.
Nationwide is working with us on the multiple small employer plan approach, and together we've been speaking to many key legislators on both sides of the aisle and both sides of the Hill. We've also seen support from regulators and other industry groups such as the Aspen Institute, SPARK, the Heritage Foundation and the Retirement Security Project.
Importantly, we believe that small employers and their employees are going to be very interested in the various options to solve this coverage gap. We think this multiple small employer plan concept is low cost, easy to administer, and has the right level of fiduciary responsibility for those small employers so they can adopt this and really give their employees access to a great plan.
The small end of the market is in clear need of solutions that solve the coverage, adequacy and longevity issues. We believe that the providers who offer these solutions and the small employers who adopt them will be winners in the future.
MME: Is there support from the mutual fund industry?
Kalamarides: Fund companies should love this because the 401(k) industry is already an open-architecture industry. 401(k) fund companies distribute their funds through all different types of 401(k) providers and everyone has open architecture. There's no difference in this sort of environment. These products will give fund companies access to an additional 78 million American workers investing in plans. Through the pooling aspect in multiple employer plans, we'll see large concentrations of assets managed by investment professionals. With this approach, fund companies can be more efficient in their marketing, lower their distribution costs, and focus on what they do best: investing on behalf of their investors.
MME: What is Prudential doing to provide leadership in this space?
Kalamarides: We're certainly advocating and working on a solution to the coverage issue with the multiple small employer plan proposal. Our Redefining Retirement offering helps solve for middle to large corporations' coverage, adequacy and longevity issues.
We're also a leader in retirement income solutions in the qualified market. Our guaranteed income solution, IncomeFlex, is a guaranteed minimal withdrawal benefit product. We've had this product in place since 2006 and we rolled out the second generation in 2009. We solved the portability issues so that other recordkeepers can support this, and participants can roll it over to an IRA if they separate from their employer. We're in the lead here and we're committed to maintaining continued innovation in this marketplace.
But we're focused on more than just products. We've testified to the ERISA Advisory Council on the importance of streamlining participant disclosures. We think participant disclosures need to be simple, practical and actionable in their approach.
We just released our sixth Workplace Report on Retirement Planning, which provides very unique insight on how Americans feel about workplace retirement plans and what types of products they'd like to see in those plans.
We take a leadership position in stable-value offerings and providing a guarantee of interest and principal, as we believe that those products are an important component of any diversified portfolio. Finally, we take a leadership position in industry groups and in making sure that we offer a full range of products and solutions to our clients.
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