Why’d You Pick That Fund?

We’ve been suggesting that moving employees from defined benefit plans (DB) to defined contribution plans (DC) forces participants with little skill to become portfolio managers, even if all they are doing is picking a target-date fund.  New research supports the idea that a lack of investment skill is becoming more apparent in how they are choosing their investments. The WSJ has produced an article based on a research paper from the Ipsos Behavioral Science Center claiming that how a fund is listed among the choices determines the allocation.

Dr. Itzkowitz, a senior vice president of Ipsos Behavioral Science Center, a market-research firm in New York, is joined on the paper by his wife, Jennifer Itzkowitz, associate professor of finance at Stillman School of Business at Seton Hall University; Thomas Doellman, associate professor of finance at Richard A. Chaifetz School of Business at Saint Louis University; and Sabuhi Sardarli, associate professor of finance at the College of Business Administration at Kansas State University.

What the research suggests is “while not all plan participants will choose funds that appear at the top of a plan’s alphabetical menu, on average, participants are biased toward choosing those funds”.  In fact, each of the top 4 funds on the plan’s list receives on average 10% more in allocations than they would if money was allocated equally across the menu. The next 5-10 funds receive 5% less than they would with equal distribution while funds listed from 11 on down receive on average 10% less than they would when allocating equally. These results are not shocking by any stretch of the imagination, but disappointing none-the-less.

We continue to expect a lot from our untrained employees to fund, manage, and then disburse a retirement benefit with little skill. Given the findings cited above, do we really believe that DC plans are an appropriate retirement vehicle for the masses? At best these vehicles are glorified savings accounts. Until we can eliminate premature withdrawals, loans, individual responsibility to manage these plans, opt-out provisions, etc, DC plans will not produce the outcomes that our employees need in order to produce a positive outcome for a successful retirement.

Worst Idea Ever?

Just who does the HELPER Act help? Senator Rand Paul (R, KY) has put forward a startling proposal that proclaims to help our struggling students with their student loan debt. But does it? We do have a massive student loan debt issue with roughly 42 million Americans saddled with approximately $1.5 trillion in debt. So, instead of seeking relief by reducing the ridiculously high cost of college education, we instead get a proposal that would further diminish savings for retirement.  I’ve called defined contribution (DC) plans nothing more than glorified savings accounts and Senator Paul is putting a rubber stamp on my description.

Those individuals who have student loan debt are likely the ones that don’t have a 401(k) or IRA plan at this time as they are using whatever discretionary income they have to meet their student loan debt obligations. We know that many life events – marriage, childbirth, home purchase, etc – are being delayed as a result of this enormous debt burden. To think that taking prematurely assets that were intended to meet their retirement needs is a good idea just further highlights the disconnect between many in Washington DC with the reality that is facing our general population.

Let’s not take one awful situation regarding the cost of higher education and compound it with a dreadful decision to impact one’s financial future in retirement. As we reported yesterday, 53 million American workers are averaging roughly $10.22/hour or $18,000 per year. Do you really think that they have enough assets to pay for college and save for retirement let alone put a roof over their head and food on their table? It is time to get serious about the many social and economic issues facing our society. The HELPER Act is NOT a serious attempt.

Not The Answer

I’ve written a lot on this subject, so I suspect that you would prefer another point of view. Here are the words from Cecil Roberts, International President for the UMWA on the subject of the Grassley-Alexander proposal.

Grassley-Alexander multi-employer pension plan proposal not the answer for retired miners and widows

[TRIANGLE, VA.] United Mine Workers of America (UMWA) International President Cecil E. Roberts issued the following statement today regarding the proposal by Senators Chuck Grassley (R-Ia.) and Lamar Alexander (R-Tenn.) addressing the multi-employer pension plan crisis:

“This proposal provides everything those who advocate against working families have ever wished for. It penalizes workers for joining unions, it penalizes retirees for sticking with those unions, it penalizes employers for recognizing unions and it penalizes unions themselves for successfully representing their members.

“This is not a starting point for negotiations. It is a multi-billion dollar tax increase on working families – especially retired Americans living on fixed incomes – their employers and their unions. Retirees covered by the UMWA Pension Fund, for example, would be subject to a 10 percent tax on pensions that average a little under $600 per month.

“This proposal does not begin to address the immediate crisis UMWA retirees and their families are confronting. Fortunately, the Bipartisan American Miners Act –by Senator Joe Manchin (D-W. Va.), Senate Majority Leader Mitch McConnell (R-Ky.) Senator Shelley Moore Capito (R-W. Va.), and a dozen bipartisan Senate cosponsors – does address that crisis, using an existing source of funding that requires no new bureaucracy and most importantly, no new taxes on working families.

“Retired miners, their families and widows do not have the luxury of waiting to see if Congress can eventually come up with a comprehensive solution to the multi-employer pension crisis that treats retirees fairly. 1,200 stand to lose their health care at the end of this year, 12,000 more will lose health care within a few short months, and more than 82,000 will likely see drastic cuts to their pensions a few months after that.

“We continue to strongly urge House and Senate leadership – all of whom say they want to address the immediate crisis retired miners face – to put partisanship aside and pass the Bipartisan American Miners Act. These senior citizens, who provided the fuel to power America at great risk of life and limb, need action now. Let’s get this done.

I agree with Mr. Roberts. My fear is that the U.S. Senate, under Republican majority, will act on this proposal that basically dooms to failure the 120+ multiemployer plans that are designated as Critical and Declining. Why? Instead of providing these cash-starved plans with the lifeline that they need, the proposed legislation will strengthen the PBGC so that when these funds ultimately fail they will be able to provide some of the promised benefits. I’d much prefer the Butch Lewis Act that provides a low-interest loan to these struggling plans that insures the Retired Lives liability is met in full and gives these plans a 30-year lifeline to get their house in order. Without DB plans the next generation of workers will likely be left with only a DC option, and we know how badly that has worked out for many U.S. workers in the private sector.

Don’t Let The Headlines Fool You!

Headline after headline promotes the idea that the U.S. economy has a historically low unemployment rate that currently sits at 3.6%, with only September’s reading of 3.5% lower in the last 40+years. However, according to a Brookings Institute study, nearly 50% of America’s workers (age 18-64) are in low-paying jobs and making on average just over $10/hour or roughly $18,000/year. In addition, many of these jobs either don’t provide benefits or those benefits, such as healthcare and pensions, have diminished over time. Regional biases do exist, as nearly 6 in 10 workers in the South and West struggle under the burden of low-wage work.

The study looked at the country’s nearly 400 metropolitan cities and found that between 1/3 and 2/3 of the jobs in those areas were low-paying. Regrettably, there is a perception that most of these poorer quality jobs are occupied by younger individuals, but this study found that not to be the case.  In fact, most of the 53 million American workers in low paying jobs were in their prime working years of 25-54. For many of these Americans with fulltime jobs, they are not earning a living wage for their region. Worse, as our businesses migrate their employees to defined contribution plans (DC) from defined benefit plans (DB) the burden of funding one’s retirement falls squarely on the shoulders of those that can least afford the extra burden.

Brookings also found that some of the wealthiest cities with the strongest economies had significant issues with low-quality jobs, which might just explain why places like San Francisco (700,000 low-paying jobs) and Seattle (560,000) have such awful homelessness issues. One of the areas not touched in the study was the impact that this development is having on the health of those males that have been driven from the workforce at premature ages. Life expectancy continues to fall in the U.S (3 consecutive years) which is outrageous given our wealth and medical institutions. Depression, suicide, and drug abuse are increasingly common among those forced to work in low paying jobs.

Those not able to find high-quality jobs are most often found to be lacking a college education but given the extraordinary cost of attaining a college degree, it isn’t surprising. We currently have more than 41 million Americans with student loan debt that tops $1.5 trillion at this time. The implications are profound and have delayed family unit creation, initial home buying, and many other activities that were once completed by Americans in their 20s, which is no longer the case.

So given these developments, does it still make sense, if it ever did, to thrust a majority of Americans into DC plans? Should it be a surprise that nearly 50% of Americans have saved little to nothing for retirement? I shudder to think of what might happen to the vast majority of Americans currently in the workforce when technological advances (AI) truly begin to impact a majority of occupations.

K.I.S.S.

Why must politicians always complicate a problem that has a rather simple solution? H.R. 397 passed the House with bipartisan support in July. Unfortunately, nothing has been done in the Senate to pass this important legislation needed to protect the promised retirements to so many hard-working Americans. Regrettably, we get a proposed piece of legislation from Republican Senators Grassley and Alexander, that takes the simple solution that addresses the needs of the roughly 125 Critical and Declining plans and proposes onerous changes to all multiemployer plans that might very well thrust a significant percentage of healthier plans into a funding crisis.  Why? What is the ulterior motive?

As we’ve discussed, the current array of Critical and Declining plans have a significant negative cash flow.  They need a lifeline, as these plans can not invest their way to solvency.  H.R. 397 proposes a loan program that would force plans to calculate how much it would need to fully defease the plan’s current retired lives.  They would then borrow the money through a government agency called the Pension Rehabilitation Administration (PRA).  The retired lives are defeased, while the current assets of the plan and any future contributions would go to funding the future liabilities, interest payment, and the principal loan repayment (30-year maturity). The investing horizon has been dramatically lengthened providing for a much longer investment horizon for less liquid assets to capture the liquidity premium. Simple!

The roughly 90% of multiemployer plans that are not in C&D status would continue to operate under the current rules. Have they always done everything right – NO! But, we have an immediate need to fix those plans that are in dire straights so that roughly 1.4 million Americans don’t lose their economic freedom.

However, as we previously stated, Washington DC doesn’t like simple! Instead of focusing on the crisis at hand, Grassley and Alexander want to “fix” every plan, whether they need it or not. Instead of providing loans that would extend the viability of these plans by 30 years, they prefer to have these plans fail and ultimately become the responsibility of the PBGC. Since when are the Republicans the party of big government? Why on Earth do we want to make the PBGC more relevant, as opposed to permitting these plans to stand on their own?

Instead of a simple loan program, Grassley and Alexander are now proposing to partition orphan participants from active lives, significantly reduce discount rates for the calculation of plan liabilities, change the formula for withdrawal liability, dramatically raise costs by ramping up PBGC premiums, provide tax incentives for the adoption of Composite plans, and on and on and on… It certainly makes it seem as if they want to drive multiemployer plans out of business, whether it is healthy or not. This is not a solution. I would hope that members from both parties can see through this charade before the entire multiemployer pension universe is crippled. Enough for now.

 

Are They Not Taxpayers?

Two Republican Senators have responded to the Butch Lewis Act (H.R. 397) that passed through the House in July with their own retirement proposal.  I’m so glad that I haven’t been holding my breath in anticipation that the counter proposal would be supportive of the loan program that is the backbone of the BLA’s legislation and implementation.  I will comment much more on the specifics of the Grassley and Alexander legislative proposal (Multiemployer Pension Recapitalization and Reform Plan) in a future post, but the comment that gets my blood flowing is the following:

“The reforms are designed in a balanced way to avoid tipping more plans into a poorer funded condition, and also to avoid exposing taxpayers to the full risks associated with the largely underfunded multiemployer system and pushing the PBGC into insolvency.”

Are the participants in these plans NOT taxpayers? Do the benefits that they receive not generate tax revenue directly and significantly more revenue through their participation in our economy? Why are we not concerned that the 1.4 million workers in Critical and Declining multiemployer plans may lose a substantial percentage of their promised benefit? Given the critical elements in the Grassley and Alexander bill there is a very good chance that a significant percentage of the 10+ million union employees in the multiemployer retirement program may witness a significant reduction in their promises, too.  Lastly, did we not ask the American taxpayer to support the Troubled Asset Relief Program (TARP) program to “rescue” the financial industry following the GFC? The TARP program that authorized the rescue of up to $700 billion. Why is this much smaller request creating all of this concern for the taxpayer now? There seems to be a double standard in play, and it stinks!

Are They Worth It?

Anyone who has spent more than a few minutes reading my blogs knows that I am a huge fan of DB plans as the primary retirement vehicle for participants. I personally like the idea of a 401(k) plan as a supplement, its original intent, to a primary retirement account, but certainly not as a primary vehicle for the vast majority of American workers. Much has been done to try to improve 401(k) programs from auto-escalate, to auto-enrollment, to changes in QDIA options, but there is much more that is needed to be done.

One of the “enhancements” that I initially appreciated was the idea of a target-date fund (TDF) as a QDIA option in lieu of a GIC or money market account. However, I’ve soured on these instruments because of their cost structure. Despite the fact that we now have more than $1 trillion in AUM in TDFs, costs have not fallen as rapidly as they should have. According to Morningstar the average TDF still charges 62 bps. Are advisors really adjusting their fund exposures frequently enough to justify this fee? After all, an individual participant could invest their retirement balances in pure index funds for mere pennies. Starting the year off 60+ bps behind the index is a lot to overcome. The compounding impact of years of higher fees will negatively impact one’s retirement accumulation.

As our retirement industry becomes more reliant on defined contribution plans, we are burdening our workers to fund, manage, and disburse this benefit. Do we also have to make matters worse by charging excessive fees for portfolios that are charging too much for the activity that is being conducted?