PBS recently aired a Frontline show entitled The Retirement Gamble, profiling the 401(k) industry. If you missed it, it can be viewed here. Polemic in tone, the show is highly critical of the country’s evolution from defined benefit pension plans toward defined contribution 401(k) type plans, and in particular the culture of the industry that has grown to support it. I agreed with several critical issues raised, but felt the show could have done a better job of moving past the attention-grabbing “woe is us,” and get to the heart of what all of us can do (and in some cases already are doing) to improve the status quo.
What Was Said: A Summary of Salient Points and Wistful Thinking
The show focused on a number of issues, including these three key concerns:
- Burdensome costs — Plan fees are often excessive and opaque.
- Ill-advised investment strategy – Education and advice on “active versus passive” investment strategy is lacking.
- Industry Players — Most plans are sold by brokers, who are legally governed by a suitability standard, rather than by Registered Investment Advisor firms, who are fiduciaries and required to act in the best interests of their clients.
The show featured anecdotal stories of several plan participants’ financial tribulations. These included the personal experiences of the show’s own producer, Martin Smith, who confessed his own mistakes as an investor and a small company plan sponsor. While we can and do empathize with those who are struggling to make ends meet, in the end, neither systemic shortcomings nor the existence of select bad outcomes should be enough to condemn to the scrap heap the main vehicle that tens of millions Americans are using to successfully reach their retirement goals.
Lurking in the show’s background is nostalgia for the traditional defined benefit pension system, in which, in exchange for a lifetime of company loyalty, retiring workers are provided with a guaranteed monthly stipend for the rest of their lives.
There are two problems with this sentiment. First, most people no longer work long enough for any one company to obtain a vested interest in a traditional pension plan. Second, companies are simply no longer willing to bear the responsibility of undertaking the funding and the actuarial and investment risk of managing pension plans. Like my favorite baseball announcer says, “This one’s gone and it ain’t comin’ back.”
My Take for Plan Sponsors: Why All Is Not So Lost, After All
401(k) plans have multiple moving parts, with no plan identical to the next. And yes, plan quality is all over the place. But the main shortcoming of the show, in my view, was glossing over the plan sponsor’s critical and continuing fiduciary role. Under the existing Employee Retirement Income Security Act (ERISA), plan sponsors retain a level of responsibility for making the system work. And the system can be greatly improved with a little bit of knowledge and effort. It’s not good enough to simply install a plan and forget about it. Plan sponsors must take these obligations seriously:
Align fiduciary oversight with fiduciary advice: Engage a fiduciary advisor who by law must put the participants’ interests first. This will very likely both minimize conflicts of interest and minimize expenses. The show did a really good job in the interviews with Professor Zvi Bodie, Assistant Labor Secretary Phyllis Borzi, columnist Ron Lieber and Congressman George Miller in articulating the importance of this distinction.
Speaking of expenses, demand they be fully disclosed: Yes, a 401(k) plan costs money to run. And these fees will be borne by the plan sponsor, the participants or both. But you have to know which service providers are being paid, for what and how much. New disclosures laws have made this easier, but these disclosures remain opaque and are perhaps not completely living up to their billing.
Provide evidence-based investment solutions: For me, one of the highlights of the show was the dissembling by the Wall Street executives in response to questions regarding the primacy of low-cost indexing in a well-run portfolio. Vanguard founder John Bogle summed it up well during the show: “Get Wall Street out of the equation. Get trading out of the equation. Get management fees out of the equation. You own American business and you hold it forever. That’s what indexing is. … And that is the only way to do it. Then you’re with a creature of the market and not of the casino.”
Don’t just pay lip service to this issue by having a token index fund or two in the lineup. It is far better to have a series of simple, risk-based managed index portfolios as participants’ main choices. The advent of target date and balanced index funds makes this easy to implement.
Provide education about the same: Participants must be educated that this is the best way to invest, as described by Bogle.
Most importantly, they must be offered the education, tools and advice needed to make the best asset allocation decisions for their circumstances. They then need ongoing support to continue to: 1) save enough to adequately fund their accounts and 2) stay on course during the inevitable bear markets. This is not brain surgery. But it’s not easy, either. As Bogle observed, “Good markets turn to bad markets, bad markets turn to good markets. So the system is almost rigged against human psychology.”
Outsource, but understand: A good deal of the fund selection and administrative duties can – often should – be outsourced. But outsourcing is not a “Get Out of Jail Free” card. While plan sponsors can delegate portions of their fiduciary responsibilities, they are still obligated to demonstrate that any outside professionals have been selected and are being monitored with participants’ best interests in mind.
My Take for Plan Participants: It’s Your Plan Too
Above, I described some remedies for employers to implement to improve their plans. Participants, as well, can participate in combatting a poorly managed plan. You owe it to yourself to:
- Learn. Read the materials provided. Speak with human resources. Attend all available educational meetings. If all that fails (and even if it does not) read a book like, The Investment Answer, by Daniel C. Goldie and Gordon S. Murray (Business Plus, 2011).
- Seek independent advice. There are independent advisors who, for a modest fee, can help pull together a succinct financial plan, select the best available investments in accordance with that plan (even if those investments come from a suboptimal lineup), and provide independent, periodic check-ups on the same.
- Speak up. Armed with understanding, let your company know what you would like to see out of your plan. It’s no harder to provide a good plan as a bad one, but sometimes a wake-up call can help.
- Stay the course. Don’t despair, especially if you are young. A little knowledge, a lot of discipline and the magic of compounding can go a long way.
I haven’t yet revealed my main criticism of the show: Its title. Equating understanding and accepting market risk with gambling sends a gravely disserving message to the public, particularly to plan participants. While having faith in capitalism and investing in a systematic manner involves accepting that life is inherently risky, prudent investing is not the same as free-form gambling. Plan sponsors and participants alike who fail to understand and distinguish between the two are at a serious disadvantage.
Last but not least, the concept behind the 401(k) is that the program is a collaborative partnership between employers and employees to prepare for retirement. When running on all cylinders, it works pretty well. The Retirement Gamble describes the worst plans – the ones in need of serious tune-ups. Hopefully I’ve provided a glimpse at what the best ones can – and do – offer in the real world.