The frenzy among politicians and the public for far-reaching changes to 401(k) plans in the wake of the Enron Corp. scandal could actually wind up penalizing the pension accounts of millions of working Americans.
Virtually overnight, Enron has become the poster child for radical 401(k) reform. Headline-grabbing stories of Enron employees who loaded up on their company's stock, only to find their retirement savings wiped out when it plunged from $90 a share to 26 cents, have become legion. So have stories dutifully reporting that no Enron employee was permitted to sell until age 50 any stock that the company matched to their own 401(k) contribution.
There's no question Enron participants lost lots of money. The record shows more than 15,000 employees had $2.1 billion invested in 401(k) plans at year-end 2000, and an average 63% of their investments was tied up in Enron stock.
A more careful review, however, shows media accounts of plan participants being shackled by company restrictions as well as by inherent inequities in the 401(k) system itself are not painting a totally accurate or fair picture.
Looking first at the plight of Enron employees, what seems to be overlooked in the heat of the moment is that these workers actually exercised complete control over 89% of the Enron stock in their 401(k) portfolios - leaving only 11% in the form of company-contributed stock that couldn't be touched until age 50. In fact, according to an analysis conducted for CNN, employees had the ability to sell the vast bulk of the Enron stock they had accumulated at virtually any time - except for the 10-trading-day "blackout period" during a change in record keepers. Yet most employees chose not to sell.
Thus, the primary issue becomes not whether employees could sell their stock, but whether the government should require them to sell their own company's holdings above some minimum amount, say, 10%, the current requirement for defined benefit pension plans under the Employee Retirement Income Security Act. Proponents of greater portfolio diversification argue no 401(k) participant should be dependent on the stock of a single company, especially when the value of that stock is closely linked to the participant's main source of income: his or her job. It's as basic as Investment 101, they say: any single stock is riskier than the performance of an entire portfolio.
That argument certainly has merit, but does it warrant stripping away the basic right of individuals to make the kinds of investment choices that could just as easily benefit them in the long run? Restrictions on single-stock concentration, for example, would have significantly penalized hundreds of thousands of 401(k) investors in their own companies. Looking at 40 of the companies with the largest defined contribution plans that also have large concentrations of company stocks, a study by Pensions & Investments, published in its April 15 issue, found stocks of 31 of these companies outperformed the Standard & Poor's 500 stock index over 10 years. In hindsight, concentration in many stellar performers made sense; concentration in Enron didn't.
One answer to the 401(k) imbroglio has been languishing within the Department of Labor for the past five years in the form of recommendations by the department's ERISA Advisory Council. In reviewing proposed legislation by Sen. Barbara Boxer in 1997 to restrict 401(k) stock concentrations, the advisory council concluded, "plans that allow participants to make their own investment choices can place the obligation of adequate diversification on the participants themselves." To help ensure the right choices are in fact being made, the advisory council urged that new rules be established to provide full disclosure to plan participants about their company's stock performance and, even more importantly, about the risks of concentrating in a single asset (emphasis in the advisory council's original report). Unfortunately, the DOL never implemented the recommendations.
It doesn't take a soothsayer to see that some big changes are in store for 401(k) plans. Politicians, after all, instinctively propose populist solutions to perceived problems. But that doesn't necessarily produce the best results. What is needed at this stage is a thoughtful and exhaustive review of what changes are truly in the best long-term interests of 401(k) participants. President Bush, for his part, has made some useful suggestions for change. They include portfolio diversification after three years, quarterly statements, much better investment advice and parity between corporate officers and workers in terms of when they can and cannot trade. They do not, however, limit company stock.
Even more meaningful, however, might be the recommendations of the aforementioned ERISA Advisory Council, an independent team of financial experts who suggested the 401(k) system not be scuttled, but strengthened through more forceful disclosure and clarity of information given to plan participants. Although five years old, that advice is more timely today than ever.
Thomas J. Healey is a senior fellow at the John F. Kennedy School of Government, Harvard University, Cambridge, Mass., and advisory director at Goldman, Sachs & Co., New York.
