Funds working harder to increase participant contributions

As more money flows into defined contribution plans, executives are taking steps to encourage participants already covered by the plans to contribute more money, more often through automatic features, according to results of the Pensions & Investments annual survey of the largest U.S. retirement plans.

Among plans that responded to questions about auto features, 46 of 82 DC plans said they offered auto enrollment during the 12 months ended Sept. 30. In the year-earlier survey, 40 of 81 plans offered auto-enrollment.

The use of auto escalation grew, too, even though adoption rates are lower than for auto enrollment. In the latest survey, 28 of 79 plans said they offered this feature vs. 23 of 77 in the previous survey.

More plans also offered both auto features — 22 in the latest survey vs. 19 in the previous survey.

“There's been more interest” in both auto enrollment and auto escalation, said Christopher Lyon, a partner at Rocaton Investment Advisors LLC, Norwalk, Conn., adding that some DC plan executives are trying to enhance their plans' auto features.

For example, some Rocaton clients are considering raising the auto-enrollment default rates above what has become the traditional 3% of annual salary. “A lot is in the talking stage, but we see signs of up to 6%,” he said.

Although clients offering auto escalation are sticking with the 1%-of-salary-per-year approach, “we see more embracing the concept,” he said. Most clients' auto features policies allow a total contribution of up to 10% of annual salary for participants.

Amy Reynolds, a Richmond, Va.-based partner and U.S. defined contribution consulting leader for Mercer LLC, said clients are offering higher default rates and re-enrollment of participants who don't contribute much.

Although auto enrollment “gets participants into the plan,” some employers are looking at improving participation through a targeted use of auto features, she said. Some plan executives are examining the use of those features based on factors such as plan demographics and whether an employer doesn't have a defined benefit plan.

Auto features are helpful because “just showing a replacement ratio can scare the heck out of some people and they do nothing,” said Jeffrey Levy, managing partner of Cammack Retirement Group, New York.

As more research shows participants need to save 12% to 15% of salary each year to achieve retirement readiness, auto features provide at least a start to reaching these goals, he said. Most of his clients are 403(b) and 457 plans, and most clients' auto features — auto enrollment plus auto escalation — enable a 6% savings rate, although a few clients are moving up to 10% to 15%.

The latest P&I survey showed some shifts in asset allocation from the previous survey. Among the biggest allocations for large corporate DC plans, domestic equity (excluding sponsoring company stock) rose to 33% from 30.8%; company stock slipped to 15.6% from 15.9%; target-date funds grew to 14.9% from 12.9%; and stable value assets fell to 14.4% from 17.6%.

DC consultant Robyn Credico said the increase in equity allocations vs. the decrease in stable value — as well as declines in fixed income and cash allocations in the P&I survey — probably reflect stock market gains rather than active choices by participants.

“I don't believe people are changing their allocations,” said Ms. Credico, the Arlington, Va.-based defined contribution practice leader for Towers Watson & Co.

“Participants do little rebalancing,” agreed Rocaton's Mr. Lyon. The growing allocations to target-date funds most likely represent their heavy use by DC plans as qualified default investment alternatives and a greater willingness by participants to rely on the allocation strategy of the target-date fund provider, he said.

For DC plan allocations among the largest public plans, the most noticeable allocation changes were an advance to 14.7% from 10.9% for target-date funds; a decline in stable value assets to 20% from 21.6%; and a drop in fixed income assets to 7.1% from 8.4%.

The use of alternatives is growing, but those investments still represent a tiny allocation among the DC plans in P&I's top 200. For example, assets invested in real estate investment trusts rose 29%, to $5.3 billion from $4.1 billion, and assets in inflation-protected securities rose 10%, to $7.6 billion from $6.9 billion. Commodities grew 28%, to about $900 million.

Consultants say that although some DC plans offer alternatives as stand-alone investment options or as parts of multiasset funds, target-date funds provide the best vehicle for sponsors to offer the investments.

This strategy helps sponsors achieve a more diversified investment lineup and guards against participants betting the ranch on a volatile stand-alone alternative investment, they said.

“More and more sponsors are protecting participants from themselves,” said Cammack's Mr. Levy, citing the inclusion of alternatives in target-date funds. However, some clients provide Treasury inflation-protected securities or REIT funds as stand-alone options.

“Target-date funds are the best for alternatives,” said Ms. Credico of Towers Watson. Alternative investments “are fairly confusing for participants as stand-alone investments.”

Alternative investments are making inroads in target-date funds. Among target-date funds offered by the retirement plans in P&I's universe, the number containing REITs rose to 42 from 33 in the year-earlier survey, while those containing direct real estate rose to 20 from 15.

Also, more plans' target-date funds offered TIPS — 56 in the current survey, up from 50 — and more offered target-date funds with commodities — 35 vs. 28. Use of private equity and hedge funds as components of target-date funds remained flat in the low single digits.