Reports of the Beardstown Ladies' investment performance fiasco highlights a glaring shortcoming in most 401(k) plans, namely, reports of individual performance returns.
This shortcoming ought be remedied by sponsors and 401(k) plan vendors.
Participants in 401(k) plans are getting, to varying degrees, investment advice on the front end. But most get very little help on the back end. While their 401(k) statements might show the performance of particular portfolios in which they invested, individuals generally are left to wonder what their own returns are. They have to do the calculations themselves.
The do-it-yourself method could result in miscalculations like those made by the famed Beardstown Ladies. They thought they had achieved a 23.4% compound annual return between 1984 and 1993; it turned out they had only a 9.1% return. The Standard & Poor's 500 stock index had a total return of 14.9% for the 10 years.
How many "Beardstown Ladies" are out there among individual 401(k) participants? Once they get accurate performance data, these investors, too, may discover their investment returns are not what they thought them to be.
For participants, calculating 401(k) performance is complex. With investments allocated across an array of portfolios -- sometimes a half-dozen or more -- it's no simple task to calculate the returns, weighting each portfolio correctly. Complicating the calculations of performance are an individual employee's regular payroll withdrawals, plus employer matching contributions, plus reinvestment of dividends and income, the latter of which one hopes will grow sizably as a participant's 401(k) account grows.
Plus, the participant throughout the year may switch investments from portfolio to portfolio, missing or making some ups and downs in the market. If an employee isn't yet vested, should returns on an employer match count toward performance, especially when an employee may leave the company and never receive the contributions or the return?
All in all, a participant's own performance likely will be very different from the return of the plan's investment funds. Sponsors at least need to provide participants with worksheets and understandable instructions, showing them how to calculate their own performance.
How can 401(k) participants adequately judge the value of the investment advice they are getting or the allocation they've selected unless they can see their own actual performance? Participants could wind up using an investment allocation strategy for a few years at least before ultimately discovering it wasn't performing as they expected.
If investment education is to meet its goal of helping participants determine their investment objectives, participants need help to know and understand their performance. That help may be coming for at least some participants.
American Express Retirement Services, Minneapolis, is beta-testing this year individual performance statements for 401(k) participants, according to Katie Libbe, vice president-marketing. It hopes to roll out enhanced 401(k) statement analysis next year for clients.
Investment education on the front end without performance evaluation on the back end is like sailing the "unsinkable" Titanic without enough lifeboats, or proper navigation to avoid icebergs.