Participants in 401(k) plans will have a larger number of investment options from which to choose in 1997, as plan sponsors move to diversify plans for participants with higher account balances who demand more offerings than ever.
The growth in investment options in 1997 will coincide with an expected consolidation among third-party service providers in the participant record-keeping business into a group of larger firms with investment management capabilities.
In addition, according to industry sources, while plans act to increase the number of options, the use of core investment options with a mutual fund window should gather strength in 1997. Sponsors view windows as a method of offering participants diversity while remaining with a single bundled provider.
Other significant developments that might affect the development of the defined contribution market in 1997 include:
Online access to accounts with complete transactional capabilities and the use of the Internet, after a sluggish start, should become more common among vendor offerings. Several major providers including INVESCO Retirement Plan Services; Fidelity Institutional Retirement Services and Merrill Lynch Group Employee Services, are gearing up to offer widespread use of online transactional capabilities in 1997.
The focus by major defined contribution vendors on the small and middle-market plans, a largely untapped market. New legislation might encourage small employers to set up savings plans. According to industry sources, vendors will push to establish a presence in the small and middle-market companies, of which 80% to 90% do not yet have 401(k) plans.
While fundamentals that now support high stock prices are positive, questions about participant skittishness during a market correction are starting to be asked. After years of pouring contributions into the equity market, most have not had to deal with a prolonged market downturn.
Investment management fees might come under rigorous scrutiny by plan sponsors and government policy-makers who have "discovered" defined contribution plans.
A growing sentiment in the public sector to establish defined contribution plans.
There is near unanimity among industry sources that additional investment options provide diversification to plan participants who have seen account balances balloon in the wake of several years of positive market performance and hefty contribution rates.
According to several recent surveys, the number of investment options has increased gradually for the past few years to its current average of between six and eight. Some larger plans have more than 20, including Warner-Lambert Co. with 23, and General Motors Corp. and Ford Motor Co. with upward of 50.
Warner-Lambert added 17 T. Rowe Price funds in October to its existing six to fill what company officials viewed as gaps in the risk-return spectrum. The additions also was partly in response to participant demand, especially for more aggressive equity options, said Sharon A. Kinsman, director-pension investments, planning, investment and development.
While the majority of plans might not add so many funds, the trend in 1997 will be to provide additional choices.
The addition of investment options "is clearly work force driven," said David Wray, president of the Profit Sharing/401(k) Council of America, Chicago. "As the account balance becomes larger, (participants) see this unbelievable amount of money and start wanting more diversification. That's where the pressure is coming from. They are no longer happy with a stock, bond, stable value and money market account," said Mr. Wray.
The expansion of investment options, however, is also a function of enhanced communications and education efforts by employers, according to EDMUND Martinez, vice president-investments management at Merrill Lynch Group Employee Services, Plainsboro, N.J.
"There will be continued expansion of investments, but we see many plans concentrating around a core option and will stay within eight to 10," said Mr. Martinez. "But we expect to see them increasingly accommodate the need for additional options by finding new ways of adding investments such as mutual fund windows. The plan must be able to communicate adequately with those that need it the most and also be able to satisfy the more sophisticated and knowledgeable investors at the same time," he said.
Mr. Martinez said many plan sponsors are starting to review their core investment offerings and redesign them by installing more options and more clearly defined investment guidelines.
"We are starting to see plans conducting reviews of their core offerings and setting up investment policies to guide the core menu by providing more style-specific information, asset class and allocation," Mr. Martinez said. "There will be a more institutional look to these funds than ever before. Plans will be looking for mutual funds managed using many of the same policies and processes used by defined benefit managers - such as remaining fully invested, following a consistent investment style and other clearly defined investment policies."
While many plans are adding funds, he said, most of the demand is expected to center around small-capitalization and international options.
Peter Smail, president of Fidelity Institutional Retirement Services Co., Boston, said the average client of his firm has about 10 options "and the trend is for more" in 1997.
He said plan sponsors will add investment options to the extent they can feel comfortable communicating effectively to their participants.
"A lot of funds will be offering mutual fund windows in 1997 with choices from one to 100 mutual fund complexes; these are more popular than self-directed brokerage accounts," said Mr. Smail.
Robert G. Wuelfing, president of Access Research Inc., Windsor, Conn., said sees increased emphasis among plan sponsors on investment performance.
"We expect the trend to become common among all segments. There is also increasing scrutiny of funds' adherence to their stated investment objectives or philosophy. This pressure will grow as plan sponsors at small and midsized companies become more sophisticated in their evaluation of investment providers and participants become better educated about asset classes and investment styles," said Mr. Wuelfing.
Another clear trend industry sources expect to accelerate in 1997 is the consolidation of the participant record-keeping business. Segal Co., New York, last year announced it was pulling out of the record-keeping business, and Lincoln National Life Insurance Co., Fort Wayne, Ind., decided to outsource most of its business to a third-party administrator in late 1996.
Earlier, NationsBank N.A., Charlotte, N.C., also outsourced its defined contribution record keeping. Others are expected to follow as the record-keeping business becomes more centralized in larger investment management firms that are able to subsidize record keeping with investment management fees.
Already nearly 61% of the business is concentrated among the nation's 25 largest record-keeping firms, according to Access Research. Most of them are large mutual funds, insurance companies and banks.
"The second tier of the record-keeping business is going to have a great deal of consolidation," said Kent Novell, executive vice president at Access Research. "The consolidation will continue, but the top 25 may shrink to the top 15 or 20. I wouldn't want to do a start-up record-keeping business in that environment."
Tom Kmak, senior vice president-retirement plan services at Twentieth Century/Benham Mutual Funds, Kansas City, Mo., said third-party administrators with slim record-keeping revenue that don't have strong investment management fees or large client base will start to pull out of the market next year.
"How many people have you heard of getting into the record-keeping business?" he asked. "There will be room for a couple of dozen major players, but you will start to see more drop out without investment management revenues and who can spread those costs across a client base," said Mr. Kmak.
The Internet, touted as one of the most important developments in communications this century, has not found a niche among defined contribution plan sponsors, nor have vendors come up with much in the way of successful Internet-based offerings. That might start to change in 1997.
"Plan-specific software and 'intranet' solutions will be 1997 communications priorities," said Gordon O'Hara, assistant vice president, T. Rowe Price Retirement Plan Services Inc., Baltimore.
"Internet and computer access will be greatly enhanced due to the continuing affordability of personal computers, low-cost access to the Internet through cable systems and television that will be introduced heavily in 1997, and the expansion of intranet software solutions."
Robert O'Conner, chief executive officer of INVESCO Retirement Plan Services, Atlanta, said the Internet "is very much in everyone's future" in 1997.
INVESCO will initiate a broad-based Internet product for plan sponsors in 1997 that will include all of the services offered through its voice-response system as well as asset allocation software that might be accessed through the client company's local area network or directly via desktop computer.
The Internet program will allow full participant access to accounts, including switching and transaction capabilities.
The service, he said, will make the plan sponsor the "information warehouse."
At Merrill Lynch, too, full transactional capabilities through the Internet will become a reality, said Kim Evans, vice president, 401(k) marketing.
"In 1997 we will make access available, including switching and transactions as well as information," said Ms. Evans.
"We envision many of the screens our customer service employees now use will be available to participants now such as account information, portfolio modeling and asset allocation tools," she said.
But, said Ms. Evans, "the Merrill Lynch phone system is not going to go away."
As for growth in 1997, Ms. Evans expects business to focus on the small to midsized plan market.
"Absolutely, the small and midsized plans are where the major growth in the business will be," said Ms. Evans.
"Only about 10% to 15% (of those companies) have plans, leaving about 80% of the market, whereas the larger plan market is already 80% to 90% covered. In that market we will see more takeaway business."