In the gnarly world of retirement income, managed payout funds have received scant attention, but that may be about to change as plan sponsors struggle with helping participants draw down their retirement savings.
Last year, for example, Callan LLC helped an employer search for — and select — a managed payout fund provider for the employer's multiple 401(k) plans, which collectively hold more than $5 billion in assets.
"The sponsor had done significant work focused on improving the accumulation experience for participants and wanted to provide solutions and tools for those on the other end of the spectrum in the decumulation or spend-down phase," said Patrick Wisdom, vice president and associate defined contribution consultant in Callan's Chicago office.
The plan sponsor decided to offer the managed payout fund alongside an annuity option to provide participants with choice and flexibility, he said.
Mr. Wisdom declined to name the plan sponsor or the fund provider that won the business, citing client confidentiality concerns.
Managed payout funds are diversified funds that come with a drawdown strategy, giving participants regular payments in retirement. Some funds offer a targeted payout range, while others offer payouts that change over time. The funds also differ in how they treat the principal amount, with some designed to spend down the initial investment to zero and others looking to keep the principal intact, paying out just the investment gains. They typically have time horizons of 25 or 30 years.
On the surface, managed payout funds may seem no better than what participants can do on their own by setting up systematic withdrawals from their retirement accounts, but experts say there's a big difference. Experts generally see them as a step up because the managed payouts are tied to a fund's investment strategy, preventing participants from making mistakes, such as withdrawing too much.
Managed payout funds are "truly a marriage of the investment strategy with the income strategy," unlike systematic withdrawals, which are "essentially just a distribution mechanism," said Robert Culberson, a retirement plan consultant at OneDigital Investment Advisors in Orlando, Fla.
Mr. Culberson, a former Fidelity Investments participant-facing service representative, recalled cases in which participants in very conservative bond funds earning 5% would set up systematic withdrawals of 8% or 9%.
If their goal is to preserve capital, they're going to accelerate depletion and end up eroding that initial capital they've invested because the 8% or 9% exceeds the return on the portfolio, he said.
"If you're going out on your own to set that up, you could potentially put your drawdown at odds with your actual portfolio rate of return," he explained.
In a managed payout fund, participants can avoid "the pitfalls of having an income strategy that isn't congruent with the asset allocation in the portfolio," he added.
Managed payout funds also tend to adjust the payouts according to market conditions. During a bear market, managed payout funds will typically lower their payment to slow what could be a rapid depletion of assets and then ramp them back up when the market rises.
With systematic withdrawals, in contrast, the fixed payment that participants set up are "going to keep on ticking unless you go in and meaningfully make an adjustment to the payout amount," Mr. Culberson said.
Managed payout funds are also an option for plan sponsors that aren't ready to embrace annuities. Unlike most annuities, managed payout funds remain liquid and allow participants to participate in the market. They are also a less expensive option, with the only cost being that associated with expense ratios of the funds.
While managed payout funds do not provide guaranteed lifetime retirement income, as annuities do, they nevertheless are attractive to plan sponsors, according to industry observers.
T. Rowe Price Group Inc., for example, launched a managed payout product after research showed that plan sponsors and consultants were more responsive to non-guaranteed retirement income products than they were to annuities. The product, which launched in 2019, essentially added a drawdown feature to the terminal vintage of its target-date fund suite by creating a managed payout trust.
While guaranteed solutions have a place within a broader in-plan retirement income ecosystem, most plan sponsors and consultants are "just not quite there yet," said Jessica Sclafani, senior defined contribution strategist at T. Rowe Price in Boston.
"Where we are today, most plan sponsors are just beginning their retirement income journey, and the non-contentious, most readily attainable first step is to implement something like a managed payout," she said.
T. Rowe Price's managed payout trust provides a monthly payment based on a 5% annual withdrawal target. The annual payout amount per unit of investment is based on 5% of the average monthly net asset value of the trust over the trailing five years.
In other words, the 5% is calculated or reset every year looking back over the past five years, Ms. Sclafani said.
The five-year lookback helps temper the effects of market volatility and the sting of systematic withdrawals during a market downturn, Ms. Sclafani added. She explained that if a participant with systematic withdrawals were to take out 5% of his or her balance during a market downturn, the withdrawal amount that month "would look quite different" in terms of its value compared with a month where the market had positive returns.
"The five-year lookback introduces a smoothing mechanism that helps create a more reliable or predictable stream of income for the participant," she said.
Fifty-one plan sponsors have adopted the managed payout product, with adopting sponsors spanning many industries and plan sizes, Ms. Sclafani said.
Asset managers, meanwhile, are betting on the growth of managed payout funds, with more of them offering the products. In 2022, 17% of asset managers reported offering the products, up from 7% the year before, according to Dave Kennedy, senior analyst at Cerulli Associates in Boston.
While managed payout funds are among the least offered products by asset managers, they saw the greatest percentage change increase in asset managers offering them last year, Mr. Kennedy said.
The uptick is driven by the massive numbers of baby boomers retiring from the workforce and taking large retirement balances with them, Mr. Kennedy added.
"In the last couple of years, withdrawals from 401(k) accounts have exceeded contributions into those accounts nationwide," he said, adding that plan sponsors want to make it easier for retirees to keep their assets in-plan.
Helping participants keep their assets in their workplace plan not only helps promote the plan sponsor from an employee benefits standpoint but also gives the plan sponsor more negotiating power when dealing with record keepers, asset managers, advisers and consultants, Mr. Kennedy said.
Still, plan sponsor adoption and usage of the managed payout products by participants is low, according to industry observers.
Callan's Mr. Wisdom said that only a few plan sponsors have added them to their plans within the past few years. "For those that have added them, we've tended to see limited usage by participants, which could be due to a number of factors such as still being relatively new to the plan," he said.
Advisers and consultants are generally supportive of managed payout funds, seeing them as playing a role in helping participants with their retirement income needs.
"I think it's the right tool for the right participant, and I would recommend evaluating it as a part of the broader category of income vehicles available within retirement plans," OneDigital's Mr. Culberson said.
