401k Investment Review Meeting

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
Post Reply
Topic Author
michaelc55
Posts: 105
Joined: Tue May 15, 2007 8:24 pm

401k Investment Review Meeting

Post by michaelc55 »

moved from Off Topic forum by admin - this is very much on topic and should benefit from the greater exposure of the Investing forum

Hi,
Being that I am on my company's Human Resources team, I get to sit in on our annual 401k Investment Review meeting. Our 401k plan is with Fidelity and we'll be speaking with a few of their reps during this meeting.

What are some good questions to ask during this meeting? If you had a similar opportunity (or have done this in the past) what would (or did) you go over?

Any advice would be greatly appreciated. If you have any questions as to the purpose of this meeting or want me to post additional information just let me know.
AnthonyF
Posts: 48
Joined: Sun Mar 11, 2007 7:29 pm
Location: Syracuse, NY

401k investment committee meeting

Post by AnthonyF »

Hi Michael,

First, you need to know if you are a fiduciary of the plan. If you sit on a committee that makes decisions about the investments or vendors of the plan, then you are most likely considered a fiduciary.

As a fiduciary, you have a duty to act in the best interest of the participants. Along with this duty, you have personal liability for any decisions made regarding the 401k plan.

You should ask for or receive the following:

1) a breakout of all fees for managing the plan, along with which fees are paid by the employer and which fees are assessed to participants

2) a copy of the plans investment policy statement (then see if the plan is actually following the policy)

3) return analysis of each fund measured against an approriate benchmark return

4) an explanation regarding how investments were chosen for the plan and what are the parameters for adding, eliminating or replacing funds


After your meeting, please return to the board and let us know how it goes. I think the topic is very timely and interesting to many on this board.

Regards, Tony
Topic Author
michaelc55
Posts: 105
Joined: Tue May 15, 2007 8:24 pm

Post by michaelc55 »

Tony,
Thanks for the response - I am in fact a fiduciary of the plan. I guess what I am trying to figure out is whether there is a typical or ideal plan "lineup". I always see people on this board saying to others "You have terrible funds available in your 401k" so I'm trying to figure out what a plan would look like if it were exactly the opposite of that statement. More specifically, I want to know what a good Fidelity 401k plan would look like.

Michael
Laura
Posts: 7975
Joined: Mon Feb 19, 2007 6:40 pm

Great Example

Post by Laura »

michaelc55,

Take a look at the Federal "401k" type plan at http://www.tsp.gov

All federal employees only have 5 fund choices that are all broad market index funds.

S&P 500
Extended Market (S&P completion)
EAFE Intl Index
Lehman Bros Bond Index
Government bonds (no commercially available match)

These 5 funds are also blended together into Lifestyle (Target Retirement) type funds.

If I were to try and suggest Fidelity funds I would recommend you start by including the Fidelity Spartan Index fund options. The Fidelity retirement fund series is very expensive so I wouldn't recommend those.

All of these funds are extremely low cost and it is very easy to construct a broadly diversified portfolio. I really don't think that most investors need the more exotic asset classes like small cap value, REIT, etc. For investors who are sophisticated enough to understand how to use these other asset classes for diversification they can be added in a Roth or TIRA account.

The one fund option that isn't available in the federal plan but that I would like to see is Inflation Protected Securities.

Hope this gives you a place to start.

Laura
The views presented are my own and not necessarily those of the Department of State or the U.S. Government.
User avatar
CyberBob
Posts: 3387
Joined: Tue Feb 20, 2007 1:53 pm

Good Fidelity 401(k)

Post by CyberBob »

michaelc55 wrote:More specifically, I want to know what a good Fidelity 401k plan would look like.
A good Fidelity 401(k) plan should at least cover the major portfolio building-blocks with inexpensive, broadly-diversified, index funds. Specifically:
  • Spartan Total Market Index fund (U.S. stocks/Wilshire 5000)
  • Spartan International Index fund (International stocks/EAFE)
  • Fidelity U.S. Bond Index (Bonds/Lehman Aggregate)
And since many people prefer pushing the 'Easy Button', you would probably want to include the target retirement date Fidelity Freedom Funds.

And what you don't want to do is clutter the plan with unnecessary choices that would be meaningless to almost everyone; funds such as the Fidelity Select Air Transportation Portfolio.

Bob
Topic Author
michaelc55
Posts: 105
Joined: Tue May 15, 2007 8:24 pm

Post by michaelc55 »

We currently have 29 funds available, 10 of them being the Freedom funds with target dates ranging from 2005 to 2040. I'm wondering if offering this many choices is overkill? I'm posting the funds currently available in our plan and was hoping that someone familiar with Fidelity could let me know if they see any overlap or red flags.

Fidelity Aggressive Growth Fund
Fidelity Blue Chip Growth Fund
Fidelity Dividend Growth Fund
Fidelity Equity-Income II Fund
Fidelity Europe Fund
Fidelity Fund
Fidelity Growth & Income Portfolio
Fidelity International Discovery Fund
Fidelity Investment Grade Bond Fund
Fidelity Pacific Basin Fund
Fidelity Puritan® Fund
Fidelity Retirement Money Market Portfolio
Fidelity Select Health Care Portfolio
Fidelity Select Utilities
Fidelity Value Fund
PIMCO Total Return Fund
Spartan® Extended Market Index Fund
Spartan® International Index Fund
Spartan® U.S. Equity Index Fund

Fidelity Freedom 2000 - 2040 Funds

Thanks!
Laura
Posts: 7975
Joined: Mon Feb 19, 2007 6:40 pm

Too many choices

Post by Laura »

I would get rid of all of these.

Fidelity Aggressive Growth Fund
Fidelity Blue Chip Growth Fund
Fidelity Dividend Growth Fund
Fidelity Equity-Income II Fund
Fidelity Europe Fund
Fidelity Fund
Fidelity Growth & Income Portfolio
Fidelity Pacific Basin Fund
Fidelity Puritan® Fund
Fidelity Retirement Money Market Portfolio
Fidelity Select Health Care Portfolio
Fidelity Select Utilities
Fidelity Value Fund

In place of the Spartan Equity and extended market funds I would use the Spartan Total market fund.

I would also add the Spartan ST and Int term bond funds.

Most people will just be confused by the 29 funds that you now offer. You will encourage them to chase past returns rather than broadly diversifying. Keep it simple. Most people will benefit more from good, low cost, broad market index funds.

Laura
The views presented are my own and not necessarily those of the Department of State or the U.S. Government.
User avatar
mickeyd
Posts: 4899
Joined: Fri Feb 23, 2007 2:19 pm
Location: Deep in the Heart of South Texas

Post by mickeyd »

Good question for the Fidelity folks: Which up-scale steak joint are you taking us to dine tonight?
Part-Owner of Texas | | “The CMH-the Cost Matters Hypothesis -is all that is needed to explain why indexing must and will work… Yes, it is that simple.” John C. Bogle
User avatar
stratton
Posts: 11085
Joined: Sun Mar 04, 2007 4:05 pm
Location: Puget Sound

Post by stratton »

Good question for the Fidelity folks: Which up-scale steak joint are you taking us to dine tonight?
_________________
regards,
mickeyd
What do you care about steak joints? :P

Paul
User avatar
Prokofiev
Posts: 1316
Joined: Mon Feb 19, 2007 8:45 pm
Location: New Orleans

Post by Prokofiev »

" I would get rid of all of these . . ."

I hate the idea of limiting choices. Unless these funds are adding to the cost of your plan (and I doubt that. Fidelity wants the higher ER funds included) I would not give fewer choices to the participants. It actually looks like you already have a pretty decent plan in place . . .
Everything should be made as simple as possible, but not simpler - Einstein
User avatar
4th&Goal
Posts: 552
Joined: Tue Feb 20, 2007 6:59 pm
Location: Mojave Desert

Post by 4th&Goal »

stratton wrote:
Good question for the Fidelity folks: Which up-scale steak joint are you taking us to dine tonight?
_________________
regards,
mickeyd
What do you care about steak joints? :P

Paul
Just mickeyd taking another shot at Fidelity.
"I advise you to go on living solely to enrage those who are paying your annuities. It is the only pleasure I have left." | (Voltaire)
Laura
Posts: 7975
Joined: Mon Feb 19, 2007 6:40 pm

Contradictions

Post by Laura »

Prokofiev wrote:" I would get rid of all of these . . ."

I hate the idea of limiting choices. Unless these funds are adding to the cost of your plan (and I doubt that. Fidelity wants the higher ER funds included) I would not give fewer choices to the participants. It actually looks like you already have a pretty decent plan in place . . .
Prokofiev,

I found your comments humerous because they conflict with your "automatic signature" that says:

Everything should be made as simple as possible, but not simpler - Einstein

Laura
The views presented are my own and not necessarily those of the Department of State or the U.S. Government.
User avatar
Prokofiev
Posts: 1316
Joined: Mon Feb 19, 2007 8:45 pm
Location: New Orleans

Post by Prokofiev »

Laura,

. . . but not simpler.


Cheers, -P
Everything should be made as simple as possible, but not simpler - Einstein
User avatar
SoonerSunDevil
Posts: 2000
Joined: Mon Feb 19, 2007 9:32 pm
Location: The desert

Re: Great Example

Post by SoonerSunDevil »

Laura wrote:michaelc55,

Take a look at the Federal "401k" type plan at http://www.tsp.gov

All federal employees only have 5 fund choices that are all broad market index funds.

S&P 500
Extended Market (S&P completion)
EAFE Intl Index
Lehman Bros Bond Index
Government bonds (no commercially available match)

These 5 funds are also blended together into Lifestyle (Target Retirement) type funds.

If I were to try and suggest Fidelity funds I would recommend you start by including the Fidelity Spartan Index fund options. The Fidelity retirement fund series is very expensive so I wouldn't recommend those.

All of these funds are extremely low cost and it is very easy to construct a broadly diversified portfolio. I really don't think that most investors need the more exotic asset classes like small cap value, REIT, etc. For investors who are sophisticated enough to understand how to use these other asset classes for diversification they can be added in a Roth or TIRA account.

The one fund option that isn't available in the federal plan but that I would like to see is Inflation Protected Securities.

Hope this gives you a place to start.

Laura
Hi Laura,

I have to respectfully disagree with your opinion that the Fidelity Freedom (Target Retirement Fund) Funds shouldn't be included within the 401(k) plan. While you're right about the funds being a little more expensive that most investors would like, these funds do provide instant diversification with just one fund, and simplicity is something many investors need. It would be very easy for an employee to figure out which Freedom Fund they are best suited. The employee only needs to save to make this process work.

I think if the Freedom Funds weren’t in place, you would have some employees say, "I'm going to work for 20 or 30 more years, so I guess I'll just put my money in the Growth Fund." This often leads many employees to holding a portfolio that is heavily concentrated in just one asset class and in only one country.

Respectfully,

John
Laura
Posts: 7975
Joined: Mon Feb 19, 2007 6:40 pm

John

Post by Laura »

John,

You are probably right. If you look at the list of funds I said I would remove from the plan the Fidelity Freedom funds were not included meaning they should stay in the current plan.

Laura
The views presented are my own and not necessarily those of the Department of State or the U.S. Government.
pkcrafter
Posts: 15461
Joined: Sun Mar 04, 2007 11:19 am
Location: CA
Contact:

choices

Post by pkcrafter »

Good points on both sides, but I think simple choices like the Freedom Funds, which I'm not wild about, are probably a necessity. Especially if there is a default investment. I'd also bet the use of a freedom fund may deter investors from switching things around which would ultimately end up costing them a lot more than the ER of a freedom fund.

I do agree with Laura's list of other funds to exclude, except for maybe the value fund. Is that Fidelity Large Cap Value? There have been studies done that show having too many choices causes bewilderment, paralysis and ultimately nonparticipation.

Paul
When times are good, investors tend to forget about risk and focus on opportunity. When times are bad, investors tend to forget about opportunity and focus on risk.
User avatar
stratton
Posts: 11085
Joined: Sun Mar 04, 2007 4:05 pm
Location: Puget Sound

Post by stratton »

Good points on both sides, but I think simple choices like the Freedom Funds, which I'm not wild about, are probably a necessity. Especially if there is a default investment.
A WSJ article today mentioned one of the legal safe harbors is to have a Freedom/Target type of fund available in the retirement plan if there is an opt-out enrollment.

Paul
Helot
Posts: 264
Joined: Sat Mar 03, 2007 2:05 pm

Some Thoughts

Post by Helot »

A few thoughts.

I would explore adding the necessary Spartan index funds mentioned by others to create broad market access. In addition, I would ask about using the Fidelity Advantage class versus the Investor class shares (lower expense ratios). Though the minimum investment is usually much higher for this class of shares, this can often be waved depending on the size of the total 401K account.

Regarding the use of the Freedom Retirement funds, perhaps an option is to create your own line up of these funds using the appropriate Spartan funds. Again, depending on the size of your 401k plan, and whether you utilize an independent consultant, you may be able to create your own target date funds at a significantly lower cost.

In the end, your goal should be similar to that of the TSP plan: broad market indexes at the absolute lowest costs and target retirement funds constructed of these same indexes.

Regarding the limiting of your employees investment options and "choices" by following this approach, perhaps a reasonable compromise is the option of adding a brokerage account. In practice, very few employees will utilize this option and you'll avoid the charges of acting like "Big Brother" and "limiting choice."
Topic Author
michaelc55
Posts: 105
Joined: Tue May 15, 2007 8:24 pm

Post by michaelc55 »

Paul,
The fund you were inquiring about is Fidelity Value and not Fidelity Large Cap Value.

Michael
livesoft
Posts: 86330
Joined: Thu Mar 01, 2007 7:00 pm

Post by livesoft »

I am on the 401k investment committee of a small company plan that has an 8-figure asset balance. The first you have to have is an "Investment Policy Statement" or IPS. That statement should show how you are going to encourage employees to participate. The laws have changed so that the default is opt-in and one can select a fund that is not a money market fund such as a target retirement (? or maybe a balanced fund).
As for fund selection, you have to give people what they want and you have to give them what is good for them. Sometimes these do not intersect. You also have to cover a wide range of ages, risk, and asset values.

Let me give you some examples. A young person without any knowledge of investments and no outside investments would probably do best in a target retirement fund. A person near retirement with lots of outside investments may want 100% fixed income either in intermediate bond, TIPS, stable value, US Governments, etc. Someone may want all small cap value because their spouse has all the other asset classes in their 401k. Anyways, there is no one size fits all solution.

Our plan has the following fund classes:
foreign large value
foreign smal/mid growth
small blend
mid-cap blend
large blend as S&P500 index fund
large value
large growth
balanced fund (aka moderate allocation)
world stock (US and foreign)
US government securities
Intermediate bond
Stable value
and 3 target retirement funds. One can use a TR fund or balanced fund or one can slice-and-dice. There are no sector funds like tech, health, REIT. There are no emerging markets funds.

Except for the S&P500 index fund, all the funds are actively managed A share funds with the front-end load waived. The expense ratios average around 1%.

Bogleheads may consider this heretical, but expense ratios do not tell the whole story and neither does passive indexing. Our IPS states that the plan will have funds with performance rank in the fund's peer group in the top 50 percentile in the 5-year time frame. Our fund advisor looks at the funds available in our "platform" and presents the M* data. You can do this yourself. Our average "5 yr return (%) rank in Cat/Ind" for our actively managed funds is 15%. That's right in the top 15%. The 3-year rank is 16% and the one-year rank is 28%. This all despite the high expense ratios. One of the worst funds with respect to ranking is our S&P500 fund even though it has the lowest expense ratio of all our funds.

We have lots of aggregate data of how much is invested in each fund, how many employees invest in each fund, which age groups invest in which funds, etc. The data suggests there are some indexers with mostly S&P500. There are some performance chasers with all in the foreign small cap or the US small cap fund. There are some folks who are all in the stable value fund.

We rarely change the fund selection. Why should we since the funds are in the top 15% of their peers over the last 5 years? When we do consider a fund change, we must move to a fund with better rankings versus their peers and have the same asset class. We did change fund that had style drift. It had moved from small cap to mid cap, so since we already had a better ranked mid cap fund, we selected a well-ranked small cap fund to replace it.

So you can do this exercise or ask your 401k advisor to do it for you.
Take the funds in your 401k and enter them into a Morningstar portfolio at TRowePrice for free. Customize a view to show the TotalReturnYTD, 12month, 3year, 5year and the %rank for those time periods. Show the expense ratio, the EquityStyleBox, M* rating, and the StockIndustry/Fund category. This gives you very straightforward way to select funds. You can even put in some Vanguard index funds in there if you like, but you will be surprised at how they rank.

I have created dummy portfolios of a Merriman VG portfolio and of an IFA DFA portfolio. The all-VG portfolio has an average 5-year % rank of 32%. The all-DFA portfolio ranks out at 17% if you get rid of global bonds (not in our 401k).

Anyways, Bogleheads may not like it, but our 401k actively managed funds seem to do better than passive index funds (except our S&P500 index fund is way behind due to its expense ratio). Indeed, the S&P500 index fund is probably the worst fund in the bunch.

Now I would not invest in any of our 401k funds outside of the 401k since I would have to pay a front-end load. Thank goodness we don't pay that load.

So in summary: Our IPS forces us to select funds that are well ranked versus their peers. We cover many of the asset allocation bases. We provide funds for all types of employees.

Comments welcome!
livesoft
Posts: 86330
Joined: Thu Mar 01, 2007 7:00 pm

Post by livesoft »

Oh, some questions to ask your advisors.

1. How do the performances of these funds rank versus their peers over a 1, 3, 5, and 10 year period?

2. Do these funds provide all the asset categories that one needs? If not, why not?

3. Do you believe in using sector funds? (I see Health, Utilities, but no REIT fund; it looks like past performance chasing to me).

4. Do you offer funds for all types of employees: young to old, low income to high income?

5. Do you believe in target retirement funds? Why or why not?

6. How can we get funds with higher ranks and lower expense ratios?

7. What will cause you/us to want to change a fund offering? What funds were changed in the last 3 years and why?

[Edit to add] 8. Do you offer a self-directed brokerage option? What is your experience in how employees use this option? (I have heard that this option is used by folks to trade stocks so their 401k balance goes to zero and not necessarily to get into low-cost ETFs in an AA-wise manner.)
User avatar
stratton
Posts: 11085
Joined: Sun Mar 04, 2007 4:05 pm
Location: Puget Sound

Post by stratton »

Paul Merriman has web site evaluating 401K plans for lots of companies.

401K Plans Here

Paul
User avatar
stratton
Posts: 11085
Joined: Sun Mar 04, 2007 4:05 pm
Location: Puget Sound

Post by stratton »

Someone may want all small cap value ...
I fit that profile. We just switched 401K plans and the only thing I want is the Northern Small Cap Value (NOSGX 1.0 ER). There are no other funds that fit my asset allocation except for a mislabeled Intl LV (ER 1.6!) which is really ILG so it doesn't work either. The bond fund is ok and the stable value fund is probably ok too, but I'd rather have TIPS. For some reason we have an S&P 500 (ER 0.35), but only managed mid cap and small cap fund which are as high as 1.3% ER. Yep, Schwab is going to get their money some way.

So someone like me would probably end up in extended markets for a TSP style retirement plan. At least I'd get some small and mid if all else fails. In the real TSP plan that bond fund would be attractive too.

For someone like me the 401K is only 4% of my asset allocation so those SV choices are important. If there isn't anything suitable, such our previous plan, I built a separate portfolio with 42% US, 18% intl, 40% bonds.

Paul
livesoft
Posts: 86330
Joined: Thu Mar 01, 2007 7:00 pm

Post by livesoft »

I wanted to add:

In our investment review meeting, we compared each of the funds in our plan to possible alternate funds available in our platform.

We had to make an explicit decision to keep the currently selected fund or to switch.

We did not always switch to a different fund with a better recent performance. [Edit to add: We rarely switch funds.]

If the currently selected fund was still well ranked among its peers, then we considered keeping it. We also looked to see how many people would be impacted by a change. If a fund only had 10 employees invested in it, then we felt it was easier to change than if we had 100 employees invested in it.

However, if a fund fell in 5-year performance ranking, we were compelled to change it.

So in reviewing each and every fund in your plan, I think you should ask the advisors: Why this particular fund? What makes it best for our fund? Is there a better fund available in this asset class? Why not chose that better fund?
Last edited by livesoft on Mon Jun 04, 2007 6:48 pm, edited 1 time in total.
livesoft
Posts: 86330
Joined: Thu Mar 01, 2007 7:00 pm

Post by livesoft »

stratton wrote:For some reason we have an S&P 500 (ER 0.35), ...
You can thank Jack Bogle for that. Almost everyone knows about indexing and most assume that means the S&P500 index. That's why our plan offers the S&P500 and that's why it has the most total assets in our plan. It turns out that it is probably the worst fund in our plan.
grok87
Posts: 10525
Joined: Tue Feb 27, 2007 8:00 pm

Post by grok87 »

michaelc55 wrote:We currently have 29 funds available, 10 of them being the Freedom funds with target dates ranging from 2005 to 2040. I'm wondering if offering this many choices is overkill? I'm posting the funds currently available in our plan and was hoping that someone familiar with Fidelity could let me know if they see any overlap or red flags.

Fidelity Aggressive Growth Fund
Fidelity Blue Chip Growth Fund
...
PIMCO Total Return Fund
Spartan® Extended Market Index Fund
Spartan® International Index Fund
Spartan® U.S. Equity Index Fund

Fidelity Freedom 2000 - 2040 Funds

Thanks!
Hi Michael,

The Fidelity Blue Chip Growth fund is a real stinker. Not sure about the others.

One glaring omission from your line-up is a decent small cap fund. Having gone through the same process you are going through, I can tell you it was a real battle to find a decent small cap index fund that we could add using Fidelity's available funds. You might try the Columbia Small Cap Index fund- tracks the S&P 600 with a 0.2% e.r.

cheers
grok
AnthonyF
Posts: 48
Joined: Sun Mar 11, 2007 7:29 pm
Location: Syracuse, NY

prudent investments?

Post by AnthonyF »

Michael,

To your question, there is a quite a bit of overlap in the fund line-up. At least you have 3 low cost equity funds in Spartan.

It's hard to put the toothpaste back in the tube, so my guess is you will have a hard time eliminating the active funds, although it would be prudent to do so. The Thrift Savings Plan should be your model. Once you introduce actively managed funds into your plan you expose yourself (as a fiduciary) to "manager risk". This risk is easily avoided by excluding active managers.

Livesofts plan is typical of what is wrong with 401k plans. The fiduciaries spend way too much time trying to find "good" funds. When these "good" funds go bad, they find a new fund to replace it that has a much better recent track record. While this may or may not fufill his fiduciary duty, the participant is left with the ACTUAL returns of the "bad" fund that was replaced. Of course, there is no guarantee the new fund will do any better, in fact there is research to indicate that it will actually do worse going forward. So why take manager risk when you don't have to?

The Center for Fiduciary Studies puts out a very nice handbook for investment stewards such as yourself. You can find it here http://www.fi360.com/main/foundation_st ... ewards.jsp.

Lastly, I am not a fan of freedom funds in a 401k plan. In my experience, participants don't know how to use them. You will find that many participants choose more than one freedom fund, incorrectly thinking they are diversifying.

I would be interested to know what Fidelity's response would be if you requested they elimate all active funds, leaving Spartan funds, a bond fund, and the freedom funds. My guess is that your administration costs would go up.

Regards, Tony
livesoft
Posts: 86330
Joined: Thu Mar 01, 2007 7:00 pm

Re: prudent investments?

Post by livesoft »

AnthonyF wrote:Livesofts plan is typical of what is wrong with 401k plans. The fiduciaries spend way too much time trying to find "good" funds. When these "good" funds go bad, they find a new fund to replace it that has a much better recent track record. While this may or may not fufill his fiduciary duty, the participant is left with the ACTUAL returns of the "bad" fund that was replaced. Of course, there is no guarantee the new fund will do any better, in fact there is research to indicate that it will actually do worse going forward. So why take manager risk when you don't have to?
I have to agree with some plans chasing performance after finding out that a fund is bad. I can argue that our plan is not like that because we do not weight recent performance as highly as we do 5-year performance. All but a few funds in our plan have been there more than 5 years, so our employees have been using the funds ranked in the top 15% over the last 5 years.

As for fiduciaries spending time finding the funds ... that's what you pay the advisor for. The investment committee is to make sure the advisor does not screw up a good thing.
User avatar
grabiner
Advisory Board
Posts: 35540
Joined: Tue Feb 20, 2007 10:58 pm
Location: Columbia, MD

Don't encourage performance chasing

Post by grabiner »

livesoft wrote:I wanted to add:

In our investment review meeting, we compared each of the funds in our plan to possible alternate funds available in our platform.

We had to make an explicit decision to keep the currently selected fund or to switch.

We did not always switch to a different fund with a better recent performance. [Edit to add: We rarely switch funds.]

If the currently selected fund was still well ranked among its peers, then we considered keeping it. We also looked to see how many people would be impacted by a change. If a fund only had 10 employees invested in it, then we felt it was easier to change than if we had 100 employees invested in it.

However, if a fund fell in 5-year performance ranking, we were compelled to change it.
Your employees are only given the option of investing in funds which performed well in the past, and are required to sell the funds after they have had below-average performance. This is forcing the employees to chase performance, which is not what they should do in a retirement plan. At the peak of the Internet bubble, the growth funds with the lowest technology stakes would be dropped for poor 1995-1999 performance. Growth investors would switch to the tech-heavy funds which lost more than half their value in the next two years. And still worse, investors whose non-growth funds were dropped might also be likely to replace them with the best-performing funds, not understanding the risks.

Once a fund is added to your plan, it should only be removed if there has been a fundamental change in the fund (higher expenses, new manager with a different philosophy, fund has drifted from its category, index fund changes indexes).
So in reviewing each and every fund in your plan, I think you should ask the advisors: Why this particular fund? What makes it best for our fund? Is there a better fund available in this asset class? Why not chose that better fund?
This is a good question to ask, but the reason should not be "This fund has done well in the past".
savermike
Posts: 277
Joined: Thu Mar 22, 2007 9:01 pm
Location: Chicagoland

Post by savermike »

AnthonyF, thanks for the link to Prudent Practices for Investment Stewards. Unfortunately the URL doesn't work because of the trailing period. This works: http://www.fi360.com/main/foundation_st ... ewards.jsp.

All over the investment landscape there are legal requirements to say "past performance does not predict future returns" (or suchlike). It appears that livesoft's plan's IPS appears to require them to hew to what the SEC what us to take with a grain of salt. I bring it up because it's interesting to think about. Is it incumbent on the fiduciaries to measure how well the IPS's fund-picking strategy works?

I think that in retirement plans a healthy dose of paternalism is called for (life cycle funds, relatively few choices), with an escape hatch (careful choice of the few non-life-cycle options, brokerage option, in-service rollover) for those who know what they're doing.

Mike
livesoft
Posts: 86330
Joined: Thu Mar 01, 2007 7:00 pm

Re: Don't encourage performance chasing

Post by livesoft »

grabiner wrote:Your employees are only given the option of investing in funds which performed well in the past, and are required to sell the funds after they have had below-average performance. This is forcing the employees to chase performance, which is not what they should do in a retirement plan.
I believe this would be true if our plan only offered the "fund of the month", "fund of the quarter", "fund of the year" funds each year and switched funds willy-nilly to replace last quarter's laggards. That is not the case. The plan offers specific asset classes that appear all the time in threads on "fix my AA" on this forum.

But your response begs the question: Should a 401k plan give employees the option of investing in funds that have had below-average performance in their category? It seems to me, that the minimum is at least an index fund in that category. (I apologize, I enjoy casting out the bait :D!)
AnthonyF
Posts: 48
Joined: Sun Mar 11, 2007 7:29 pm
Location: Syracuse, NY

savermike

Post by AnthonyF »

Thanks for correcting the link.

Livesoft's IPS is a roadmap for how the plan chooses and replaces funds. Their fiduciary duty is to make sure the plan is following the IPS. This IPS is somewhat typical as it presumes that plan will only include funds that outperform it's peers. (who wouldn't want that!) In practice it leads to performance chasing. This can be avoided by offering passive options in each asset class category. Since he can only choose funds available on the "platform" as described by livesoft, I doubt many passive options are even available for inclusion.

Lifestyle funds are sub-optimal in my opinion, since they only consider one dimesion of risk (age). A better option is to offer risk based model portfolios as selections in the plan. Also, from a fiduciary standpoint, a brokerage window is a bad idea.

Regards, Tony
Post Reply