Managed accounts slow to gather steam

It's been a long struggle for managed accounts to play a more prominent position in defined contribution plans. It's not for lack of trying.

Fees are down. Complexity has been reduced. Technology has helped overcome some participants' resistance. New concepts are emerging, most notably as a hybrid QDIA in which a target-date funds morphs into a managed account.

As a result, assets under management are up. Some research and record-keeping data show the percentage of sponsors offering managed accounts also is growing.

Now, all sponsors and providers need is more participants.

There are no light-at-the-end-of-the-tunnel declarations by providers, record keepers, researchers and DC consultants about managed accounts' ultimate impact on DC plans. For now, most managed account growth will come from certain participants and from plans that offer this service as an option rather than as a qualified default investment alternative.

Managed accounts' popularity is most prevalent among participants nearing retirement whose financial circumstances are more complex than younger participants, said Shawn O'Brien, senior analyst, retirement markets practice at Cerulli Associates, Boston. "Early in their careers, it's not as complicated."

Components of complexity include age, calculations of post-retirement spending, the role of Social Security, anticipated medical expenses and plans for drawing down account balances, he said.

"Target-date funds are well-suited for people just starting out" at work, added Kelly O'Donnell, Boston-based executive vice president and head of workplace for Edelman Financial Engines LLC.

"Over time, sponsors look at something more than one-size-fits- all" to accommodate employees with larger balances and more complex finances, said Ms. O'Donnell, whose firm provides managed accounts for 1.1 million participants in more than 7,000 corporate 401(k) plans.

"We've seen a great acceptance by sponsors as an opt-in," said Winfield Evens, director of investment solutions and strategy at Alight Solutions LLC, Lincolnshire, Ill. "The feedback from clients who offer it is very strong."

According to an Alight survey of DC sponsors, 66% of respondents offered managed accounts last year. Half said this service was "very effective" and 49% said it was "somewhat effective," Mr. Evens noted.

Alight's experience shows that sponsors that promote managed accounts via education campaigns have better participant usage, he said. "It takes a while to drive up the participation rates."

Mr. O'Brien said he expects managed accounts to continue growing — faster than overall DC assets — in part because costs are declining. "Our conversations with managed account managers show that fees have come down significantly in recent years," Mr. O'Brien said, although he declined to provide details.

Several consultants and researchers agreed that managed account fees have been reduced but they didn't provide details. Larger plans have greater bargaining power over price and some actively managed target-date funds may charge more than managed accounts.

Greater participant and sponsor comfort with managed accounts, greater use of technology among record keepers to provide individualized data and greater availability of interactive strategies by providers have played a role in the growth of managed accounts, Mr. O'Brien said.

The record keepers' ability to use technology to provide detailed information about a managed account participant is an improvement over the days when participants had to fill out forms to divulge the information necessary to produce the most benefit from a managed account service. "That was a roadblock making more work for the participant," he said.

Still, there are enduring roadblocks in addition to higher fees. Sponsors fear being sued over alleged ERISA violations and participants must be convinced that offering more personal information makes the service more valuable.

On the plus side for managed accounts, assets under management are up, according to Cerulli Associates. Assets under management reached $348.3 billion last year vs. $108 billion in 2012, based on Department of Labor data, company reports and the firm's research covering the eight largest managed account providers.

By contrast, target-date fund assets — held in mutual funds, collective investment trusts and separate accounts — reached $1.7 trillion by June 30, according Pensions & Investments survey data.

Another plus for managed accounts is a greater willingness by sponsors to offer this service, according to several surveys and record-keeping data:

• Surveys by Alight Solutions conducted every two years show 66% of respondents offered managed accounts in 2019, up from 5% in 2005, the year before the Pension Protection Act designated managed accounts, target-date funds and balanced/target-risk funds as qualified default investment alternatives.
• Fidelity Investments reports that 32% of its record-kept plans — 401(k) and 403(b) — offered managed accounts last year, or nearly double the rate in 2014.
• Record-keeping data from Vanguard Group Inc., Malvern, Pa., shows that 37% of sponsor clients offered managed accounts last year, up from 11% in 2009.

However, participants haven't embraced managed accounts as quickly or as comprehensively as sponsors have offered them.

Last year, 63% of participants were in Vanguard record-kept plans that offered managed accounts vs. 38% in 2009. However, 8.8% of this group enrolled last year vs. 6.9% in 2009.

The Alight Solutions' survey showed an average of 11% of participants — and a median of 10% — used managed accounts among plans that offered the service in 2019. The averages have been higher in some previous surveys — such as 20% in 2013 — while the median has remained around 10%.

Mr. Evens said the Alight average results could be affected by the changing sample sizes for each survey as well as by the fact that some respondents' offering of managed accounts could be recent.

By year-end 2019, Alight Financial Advisors, a unit of Alight Solutions, had more than $29.3 billion in managed account AUM, spokesman Landis Cullen wrote in an email.

The data is less encouraging for managed accounts as a QDIA. Last year, 3% of respondents in the Alight survey chose a managed account, and the rate going back to 2007 has stayed mostly in the 3% to 5% range.

Surveys by Callan LLC show similar results for DC sponsors' views of managed accounts as QDIAs.

"There really hasn't been much change," said James Veneruso, Callan's Summit, N.J.-based senior vice president and defined contribution consultant, referring to the percentage of plans that offer managed accounts as a QDIA. "The numbers rarely crack 5%."

Last year, target-date fund QDIAs were chosen by 87.3% of plans while managed accounts represented only 2.9%, a Callan survey showed. (Among sponsors offering managed accounts, Callan's surveys showed little change — from the 52.8% in 2010 to the 51.9% last year, with few variances in between. The numbers of respondents change from year to year.)

The reluctance among sponsors to offer managed accounts as a QDIA are related to fees, complexity and fear of ERISA lawsuits, Mr. Veneruso said. They also have concerns about benchmarking and questions about how to show that the extra cost of a managed account is worth the extra value vs. a target-date fund, he added.

"A target-date fund is a pretty blunt instrument and it becomes more blunt as you get older because there is more divergence in this age group," Mr. Veneruso said.

Vanguard doesn't offer managed accounts as a QDIA even though this "is a prominent service for us," said Dean Edwards, head of strategy and market leadership for the company's institutional business.

"The disengaged are benefiting from target-date funds," he said. For these investors "low-cost target-date funds are the most appropriate."

The big question for sponsors and participants is "can they justify the cost of a managed account vs. a target-date fund," he said. "What are you doing to justify the basis-point differential?"

Target-date fees depend on the fund — retail, institutional, retirement — but the average expense ratio of Vanguard target-date funds is 10 basis points, Vanguard spokeswoman Carolyn Wegemann wrote in an email. Fees vary for Vanguard's managed accounts "depending on assets managed and plan features but generally start at 40 basis points on the first $100,000 of managed assets," she added. Vanguard's managed account business reported $47 billion in AUM at year-end 2019.

Vanguard has taken steps to increase the ease and comprehensiveness of obtaining data from participants to make managed accounts more individualized, Mr. Edwards said.

Working with Edelman Financial Engines as a subadviser, Vanguard accumulates information such as risk tolerance, spending habits, income replacement ratio, household assets, outside accounts and debt to paint a better picture of an individual's needs, he said. "Our goal is to ensure that the participants get the help they need," he said.

Some DC industry members said managed accounts could gain customers as part of a hybrid QDIA in which a participant is defaulted into a target-date fund and, at a certain age, transferred to a managed account. Participants can opt out of either component.

Empower Retirement, Greenwood Village, Colo., introduced a hybrid QDIA in 2017 called Dynamic Retirement Manager.

This program uses investments from State Street Global Advisors in a target-date series. The switch to a managed account is handled by Advised Assets Group LLC, a registered investment adviser using the same underlying investments offered by State Street Global Advisers.

The switch to managed account from target-date fund is triggered by factors such as age, years of service or years to retirement. The factors are chosen by the sponsor.

As of February 2020, this program has been offered by nearly 600 plans, Stephen Gawlik, a company spokesman, wrote in an email. Program assets under management were $1.9 billion vs. $500 million at the beginning of 2019, he said. Empower had a total of $45 billion in managed account assets on its record-keeping platform as of Dec. 31, 2019, Mr. Gawlik wrote.

"Interestingly, the adoption of Dynamic Retirement Manager has also moved from smaller plans to larger ones," Mr. Gawlik wrote. "Initially this was a popular option in the sub-$50 million range."

Fidelity Investments, Boston, introduced its version of a hybrid in 2017 called Smart QDIA, which lets sponsors choose the factors that would trigger a participant's switch to a managed account from target-date fund as well as choose an age for which the switch would be most appropriate.

However, Smart QDIA doesn't have clients yet. Potential clients are worried about ERISA lawsuits, said Lorianne Pannozzo, senior vice president of workplace personalized planning and advice.

Still, "managed accounts is one of our real growth areas," as sponsors have become more familiar, she said. "A few years ago it was a bit more exotic. We're also seeing consultants becoming more comfortable."

The number of participants among Fidelity's record-kept clients in managed accounts was 540,600 last year vs. 147,500 in 2014.

Fidelity was the second-largest managed account provider last year with $73.5 billion in AUM, according to Cerulli. Edelman Financial Engines was the largest with $188 billion, and Morningstar Inc. was third with $58.2 billion. They account for 92% of the market as tracked by the research firm.

Between the fourth quarter of 2017 and the fourth quarter of 2019, Fidelity had a compound average AUM growth rate of 35.6% vs. 13% for Morningstar and 9.6% for Edelman Financial Engines, Cerulli Associates said.

Ms. Pannozzo said Fidelity's growth has been spurred in part by participants wanting more help and advice, which is bolstered by record-keeping data.

"Over time, the willingness to provide more personal information increases," thus enabling managed accounts to achieve its goal of individualized investing, she said.

At Edelman Financial Engines, 16% of participants use managed accounts among plans that offer it, said Kelly O'Donnell, the Boston-based executive vice president and head of workplace. QDIAs represents 7% of the company's managed account AUM either as stand-alone or as part of a hybrid. Total AUM has doubled since 2013.

In addition to seeking more detailed information about participants, managed accounts "come with guardrails," which are especially useful in times of fear and volatility, she said.

For example, to cancel a managed account service, participants must talk to an adviser.

"We constantly work on participant inertia," she said. For participants, comprehensive financial planning "is a bit like going to the dentist," she added. "They don't want to face it."

Participant contact is extensive via emails and/or mobile apps, she said.

"You have to be there with the right message when they are ready," she said. "We are constantly telling them to tell us more."