Defined contribution plan sponsors are starting to use investment management consulting services from a surprising source - their money managers.
The trend toward bundling of 401(k) plan services has made defined contribution plan sponsors more willing to accept all services from a single source, including the identification of asset classes to be offered and the selection of the investment options within their plans.
Multiproduct, full-service 401(k) money managers of all sizes have begun to offer various sophisticated performance measurement and attribution tools and plan review and design services. Some companies, like J.P. Morgan Investment Management Co., New York, offer such consulting services during the sales process, to build a relationship early with potential plan sponsor clients.
Others, such as Aetna Retirement Services, Hartford, Conn., and NYL Benefit Services Co., Boston, provide an intensive, formal education process for existing clients.
Plan vendors offering formal consulting programs to clients include Fidelity Investments Institutional Retirement Group, Boston; The Vanguard Group of Investment Cos., Malvern, Pa.; Putnam Investments, Boston; Metropolitan Life Insurance Co., New York, State Street Global Advisors, Boston; American Express Financial Advisors, Minneapolis; First Union National Bank of Georgia, Atlanta; CIGNA Institutional Retirement Services, Hartford; and BZW Barclays Global Investors N.A., San Francisco.
Companies planning to add consulting support services include The Charles Schwab Corp., San Francisco, for its new bundled 401(k) plan program and Scudder, Stevens & Clark Inc., New York.
Among vendors with an open funds style - where a sponsor can include almost any fund from any family with the hired manager's own funds - most provide basic performance measurement and analysis software model into which readily available public data is put. Many computerized models approach the sophistication of the tools regularly used by consultants themselves.
BZW Barclays Global, for example, offers a quantitative proprietary software model that allows a sponsor to find the best diversification options for a chosen level of risk. The model performs detailed manager evaluations and avoids portfolio overlaps between fund choices.
Putnam Investments offers performance analysis focusing on investment style purity by using mutual fund returns from Morningstar and a software model based on style-based returns research of William Sharpe, Stanford University professor and Nobel Prize winner.
Companies that offer externally managed mutual funds or manager-of-managers funds within their bundled 401(k) plan programs - such as Aetna, CIGNA, NYL Benefit Services and MetLife - already apply performance and style purity screens in the selection process.
Aetna, for example, uses a quantitative model with multiple style and performance consistency screens. That then "leaves us free to help sponsors through the Fiduciary's Investment Guide, a documented process which results in a written investment policy statement, a record of how asset classes and funds were selected, and ongoing monitoring," said John McCrory, the general manager of Aetna's Pittsburgh pension office.
Whether sponsors are concerned about a conflict of interest in accepting performance analysis and measurement from the manager depends on whether the decision-makers at the plan are from the human resources side or from the finance side of the company.
In situations where treasury staff is involved in vendor selection and performance monitoring, vendors say they see more use of outside consultants. Where benefits staff are dominant, performance issues seem less important than issues affecting plan participation and design.
Ron Hurt, Metropolitan Life national director of communications and client relations for defined contribution plans, said it's probably wrong anyway to try to treat defined contribution plan issues with a defined benefit bias.
"A wide variety of issues need to be addressed. Many DC plan sponsors don't use a consultant because they are dealing with very different issues, at the participant, rather than the plan level. What works for the participant, what he or she will invest in, how you deliver portfolio diversification - those are the issues DC plans grapple with. HR typically owns this benefit in a company and they know that you could drive a participant crazy if you try to give him detailed performance information at the level you might want it in a DB plan," said Mr. Hurt.
Defined contribution sponsors need to regularly monitor the performance of plan options, but don't seem to feel the need to worry as much about rebalancing and adjustment, the typical role for which a defined benefit sponsor would hire an investment management consultant, said Mr. Hurt.
Many new tools and performance databases, such as those produced by Lipper Analytical Services Inc., New York, Ibbotson Associates, Chicago, and Morningstar Inc., Chicago, are available to defined contribution sponsors, who can perform most investment performance monitoring and analysis function themselves or rely on their service provider to do it for them.
"If the data is available from Morningstar, there's not all that much use for consultant services," said Ward Armstrong, a senior vice president at American Express Institutional. "It's easy enough for a sponsor to identify the search criteria for new funds, sort and chop up the data, and narrow it down to a short list for the interview stage, where it really counts in a search. And for performance data, it's even easier to do it yourself."
But some consultants worry about handing over sophisticated tools to people ill-trained in their use. "Put it this way," said Scott Lummer, managing director in Ibbotson's consulting services group, "using these kinds of technical tools can be like handing someone a loaded AK-47. If they don't know how to use it right, they could blow their head off."
William McNabb, a senior vice president of institutional services at Vanguard, said few Vanguard sponsor clients need outside consultants for ongoing performance measurement. "Basically, we provide the performance analytics anyway they want. We can cut it in any form, by any criteria, by performance attribution, whatever anyone wants. I think sponsors hire consultants as an extra layer of protection, but it's questionable whether they really need it."
Robert L. Reynolds, president of Fidelity Investments Institutional Retirement Group, agreed. "As long as sophisticated plan sponsors get all the analysis and performance attribution they could possibly want from their mutual fund provider, the decision to hire an outside consultant is mainly one based more on comfort levels than real need."
Both Fidelity and Vanguard perform annual performance reviews with every client, checking fund performance, making changes and adding new options if necessary. Both have consulting departments dedicated to performance monitoring that the same kinds of analysis outside consultants employ.
The blurring of the lines between defined contribution money managers and investment management consultants won't clear soon, said market consultant Glen Casey of Cerulli Associates Inc., Boston.
"Plan sponsors are looking for additional direction in choosing the investment options for their plans, but largely aren't going to go to traditional investment management consultants to get that assistance. The defined contribution market is still relatively immature. The primary focus to date has been on enhancing plan participation and using well-known retail funds, rather than on identifying, adding and monitoring the best performing funds in asset classes," said Mr. Casey.
Vendors have been trying to bring more traditional defined benefit-style investment management theory to defined contribution plan investing to provide value-added services in an intensely competitive marketplace, said Mr. Casey.
"In the face of fierce competition, vendors are doing anything they can to win business," Mr. Casey said. "The move to add consulting services for DC clients has a lot less to do with helping plan sponsors meet their fiduciary responsibilty and a lot more to do with winning new accounts through relationship building."
"If this trend continues, within five years, there won't be any difference between vendors and consultants," said American Express' Mr. Armstrong. "Most consultants are managing money in some form now, anyway, and we're already doing their jobs. There won't be any difference at all, soon."