Company stock option fading from 401(k) plans

Company stock in defined contribution plans continues to shrink as a percentage of assets, plans offering the option and participants investing in it, recent research and surveys show.

Consultants and researchers attribute the decline to a greater emphasis on educating participants about diversification; sponsors' willingness to place restrictions on company stock or even drop it; a concern about stock-drop lawsuits in which participants allege fiduciary breaches when the stock price falls; and guidelines established by the Pension Protection Act of 2006.

DC experts also say they expect company stock's influence will continue waning. The big wild card, they add, is the U.S. Supreme Court's decision in June striking down the presumption of prudence — a legal principle that companies often cited successfully when they defended stock-drop lawsuits. In that case, Fifth Third Bancorp et al vs. Dudenhoeffer et al, the court also offered guidelines for lower courts to determine whether stock-drop lawsuits should proceed to trial.

“The opinion has caused a lot of plan sponsors to reconsider” their company-stock policies, said Jeremy Blumenfeld, a Philadelphia-based partner at Morgan Lewis & Bockius LLP. “The downward trend (in the role of company stock) will continue, but I can't predict how much.”

Since the Supreme Court ruling, Mr. Blumenfeld said he has received “10 to 20” calls from corporate executives about dropping company stock from their 401(k) plans or hiring a third-party fiduciary to oversee the stock plan. “Nobody is calling to say they want to add company stock.”

Five stock-drop cases were filed last year compared to two in 2013, six in 2012 and nine in 2011, according to data from Cornerstone Research, Washington, an economic and financial consulting firm that tracks stock-drop lawsuits. The record was 36 in 2008.

In the latest Pensions & Investments' survey of the largest U.S. retirement plans, corporations in the top 200 that offer DC plans reported an average allocation of 15.6% to company stock as of Sept. 30, down slightly from 2013. For the year ended Sept. 30, 2005, by contrast, the allocation to company stock was 26.1%.

Callan Associates Inc.'s quarterly surveys from March 2006 to September 2014 showed company stock allocations dropped to 13.7% from 22%, said Lori Lucas, the Chicago-based executive vice president and defined contribution practice leader. The Callan survey follows 84 Callan clients, most of which are 401(k) plans.

Ms. Lucas said a different Callan survey, published in January, revealed “very surprising” results. When plan executives were asked about what changes they expected in 2015 for company stock, 72.7% said none. The survey polled executives in 144 plans in September, three months after the Dudenhoeffer decision.)

Ms. Lucas said she was surprised because “in working with clients, more of them fall into the category of either taking action or trying to figure out what action to take than (what) we saw reflected in the survey results.”

Among the survey respondents, 9.1% said they planned to eliminate company stock as an investment option this year. In addition, 9.1% said they would wait for the outcome of recent stock-drop suits, and another 9.1% said they regularly review company stock in investment committee meetings. Other responses included freezing company stock, outsourcing the administration, and changing wording in the investment policy statement. Each answer was cited by 4.5% of respondents. (Respondents could choose more than one answer.)

Unwinding a plan's offering of company stock is a “challenging” administrative and fiduciary process, Ms. Lucas said. “You don't want to give the impression that there's something wrong with the company,” said Ms. Lucas. She has seen companies give six to 18 months' notice to participants before removing company stock from their 401(k) lineups.

Jean Young, senior research analyst for Vanguard Group Inc.'s Center for Retirement Research, Malvern, Pa., said a first is eliminating company stock as a corporate match, followed by restricting how much company stock individuals can hold in 401(k) plans, and then preventing participants from adding more to their accounts. The final step is liquidating the company stock fund.

“The biggest driver” in the declining role of company stock in 401(k) plans has been employers' halting the use of company stock in company matches, said Ms. Young. The percentage of participants using company stock if offered by their 401(k) plan declined to 53% by June 30, 2014, vs. 66% at year-end 2005, according to Vanguard records based on 1,152 clients using its record-keeping service throughout this period.

A recent survey by Aon Hewitt of 248 DC plan executives — clients and non-clients — found 6% “very likely” will remove company stock from their investment lineups this year and another 10% said they are “moderately likely” to eliminate employer stock, said Robert Austin, the Charlotte, N.C.-based director of research for the firm.

“We had a feeling this would be a hot topic,” he said.

Although Aon Hewitt didn't ask specifically about the Supreme Court ruling, Mr. Austin said clients have been reviewing the company-stock role for many years.

“Enron (Corp.) was a wake-up call for a lot of employers,” said Mr. Austin, referring to the bankruptcy of the scandal-plagued Houston oil company whose employees' 401(k) accounts were eviscerated due to holding large amounts of the company's stock.