Defined contribution plans are adding self-directed brokerage accounts as a way of giving participants more choices even as some plans reduce the number of core investment options.
Among those making the move: Sprint Nextel Corp., which began offering a brokerage option for its $2 billion 401(k) plan in October; Stanford University, whose $3.6 billion 403(b) plan's window opened in November; Hawaii's $1.45 billion 457 plan, which launched its self-directed brokerage operation in April; and the Ohio Public Employees Retirement System, which will offer the option in its $373 million 401(a) plan next spring.
DC plan executives “want more simplicity in the core offerings, and the window has become an outlet for people who might be unhappy with the changes or who want more choices,” said Pam Hess, director of retirement research at Hewitt Associates LLC, Lincolnshire, Ill.
Hewitt research shows a steady rise in the use of self-directed brokerage windows. Tracking results every two years since 2001, Hewitt found the percentage rose steadily from 12% in 2001 to 26% in 2009 among midsize and large companies. In 2009, the survey of 285 Hewitt and non-Hewitt clients showed self-directed brokerage accounts represented 3% of assets in plans in which the option was available.
“The primary drivers are the participants with the highest income and highest account balances and the longest tenures,” said Stacy Schaus, senior vice president for defined contribution practice at Pacific Investment Management Co., Newport Beach, Calif. “People who use it are typically working with a financial adviser.”
Her comments are supported by a 2010 Hewitt survey that shows higher salaries were linked to higher participation in self-directed brokerage accounts. That survey showed 10.4% of participants earning more than $100,000 annually used the option in 2009, compared with 1.5% of those earning $20,000 to $39,000 a year.
Some self-directed brokerage accounts are restricted to mutual funds; others allow participants to invest in individual stocks and bonds, as well as mutual funds and exchange-traded funds.
“This gives sophisticated investors more options” than are available in a typical DC plan, said Ryan Alfred, president and co-founder of BrightScope Inc. San Diego, which rates 401(k) plans. The accounts also can mollify that small group of vocal investors in any plan who chafe at what they claim are limited choices, he said.
Some plans charge an annual administrative fee to window users, and users pay all transaction costs. All expenses are paid from account balances.
Plan officials must emphasize to participants that the transaction costs incurred by the relative few using the brokerage option won't be borne by everyone else, said Ken Etheredge, senior vice president and retirement plans practice leader for BOK Financial, Tulsa, Okla., which sets up self-directed brokerage accounts. “You can't pass that cost to other participants,” he said.