Investment corner
Participant communications
An academic angle
The role of commodities
Page 14
Women, wisdom and wealth
Page 18
Engaging participants
Page 24
DC Matters
City of LA’s
reinvention
of retirement
income security
Fall/Winter 2016
MyLoupe-UIG/Universal Images Group/Getty Images
Promote savings and strengthen retirement security
Though assets in retirement savings plans in the US have
grown dramatically over the decades, too many Americans are
still inadequately prepared. In this issue Jim Lockhart, former
Director of the PBGC and Vice-Chairman, of WL Ross & Co.,
a subsidiary of Invesco, outlines these challenges and proposed
solutions based on his work with the Bipartisan Policy Center’s
Commission on Retirement Security and Personal Savings.
Embracing financial wellness
Marty Flanagan at a recent client event
Over the past decade,
we’ve seen government
and corporations launch
a number of measures
in pursuit of promoting
retirement savings, from
federal legislation to
employee education.
In this issue, we address
two such measures.
Welcome to DC Matters magazine. Each
issue contains insights and ideas we hope
you find helpful in your role as a plan
sponsor. The contributors in each issue
share your passion for helping American
workers achieve their goal of a secure and
comfortable retirement.
As guest author Dr. Julie Agnew addresses in her article,
“Financial Literacy in an Auto Features World,” plans with
automatic features still need to keep employees engaged.
Even though almost 70% of large plans have adopted automatic
enrollment, more than half of those plans have a default savings
rate of just 3% of pay.1 For most, that’s not enough. And as we
address in “Women, Wisdom and Wealth,” women in particular
are at greater financial risk.
Knowing that workers shouldn’t completely rely on automatic
plan features to get them to retirement, an increasing number
of employers are implementing holistic financial wellness
programs to provide guidance not just on retirement savings,
but in other areas including debt, mortgages, emergency funds
and college savings.
Proponents of these programs contend that helping workers
ease monetary burdens can help them become less stressed,
happier and more productive — and more companies are coming
on board. An estimated 40% to 60% of employers had some
form of financial wellness plan in place in 2014, and 21% of
organizations that didn’t offer financial education in 2014 had
plans to do so in 2015.2
We all play an important role
Addressing the retirement topic will be best achieved through
the combined efforts of legislators, employers, employees
and investment managers. At Invesco, we’re committed to
partnering with you as we all work toward the same goal —
ensuring a secure and comfortable retirement for all Americans.
Regards,
Marty Flanagan,
President and CEO
Invesco
1 Source: PSCA 58th Annual Survey of Profit Sharing and 401(k) Plans, Reflecting 2014 Plan Experience
2 Source: Consumer Financial Protection Bureau (CFPB), “Financial Wellness at Work: A review of promising practices and policies,” 2014
Nikada/Vetta/Getty Images
Table of contents
Invesco’s official magazine for defined
contribution plan sponsors
DC digest
Lessons from abroad
What we can learn from Australia’s
DC system
Page 2
Food for thought
Form 5500 gets a makeover
Key changes slated for 2019
Page 4
Facts and figures
DC trends
Page 5
Plan sponsor forum
City of Los Angeles
Challenging conventional wisdom
Page 6
Hail to the chief (economist)
Global economic outlook
Central banks continue to play a pivotal
role in financial markets
Page 10
Investment corner
Under the hood
The role of commodities
Page 14
Participant communications
Women, wisdom and wealth
Helping women to save more
Page 18
What’s up on Capitol Hill?
The Commission speaks
Retirement security and personal savings
Page 20
An academic angle
Engaging participants
Financial literacy in an auto features
world
Read the full story on
Page 24
Nuts & bolts
Fiduciary outsourcing
So you hired an ERISA 3(38) fiduciary,
now what?
Page 29
DC Matters Fall/Winter 2016 1
DC digest
Lessons from abroad
What we can learn
from DC systems abroad
Part 2: Australia
This year, the US DC system is celebrating the 10-year
anniversary of the Pension Protection Act of 2006 (PPA).
Since its passage, significant progress has been made in
areas like default funds and automatic features — and
there is cause for commendation. However, most in the
industry acknowledge there is much work to be done
in order for DC plans to provide the level of retirement
income participants need. To answer the question of
where we go from here, it makes sense to study the
most established and mature DC system on the planet
– the Australian pension system.
Greg Jenkins, CFA
Senior Director,
US Institutional
Consultant Relations
Team, Invesco
Greg Jenkins has more than 20 years of
experience working in the DC industry.
He’s a frequent speaker at industry
conferences and webinar events, sharing his
passion for educating plan sponsors and their
participants. Mr. Jenkins earned a BA degree
in economics from the University of Colorado
and an MBA from the University of Texas
at Dallas. He is a CFA charterholder and an
active member of DCIIA, NAGDCA, Southwest
Benefits Association and the Dallas Society
of Financial Analysts.
Australia began the transition from
traditional pensions to a DC system
in the late 1980s.
To conclude our two-part “Lessons from
abroad” series, we explore some of the
positive attributes of the Australian
system and, in particular, aspects we
can learn from and potentially employ
in the US.
The Australian system is clearly a global
leader on key fronts, the most obvious
being the high ratio of savings to GDP.
Additionally, Aussies benefit from viewing
DC plans more like traditional pensions
in several important areas such as access
to accounts, investment diversification
and the level of contributions required
to achieve acceptable outcomes.
As we attempt to tackle retirement
savings issues here in the US, we should
not ignore the fact that there is an
arguably more mature and accomplished
DC system to study across the Pacific.
The Australian DC system is clearly
a global leader on key fronts, the
most obvious being the high ratio
of savings to GDP.
Typical asset allocation for
an Australian DC plan4
Australia’s DC system
The Australian DC system is smaller than
the US DC system in absolute terms, but
larger as a percentage of gross domestic
product (104% versus 72.7% in the
US).1 To understand the Aussie system
of today, it is helpful to look at how it
began. Australia began the transition
from traditional pensions to a defined
contribution system in the late 1980s.
The Australian government very adeptly
recognized the demographic writing on
the wall and realized that its DB-based
system was in jeopardy. Compulsory
contributions were instituted in 1992,
escalating over time to the 9.5% level of
today.2 Most importantly; there was vision
and a thoughtful plan behind it all.
1 Source: Towers Watson Global Pension Study 2016. US figures includes IRA assets.
2 Source: Australian Taxation Office, 2016
3 Source: Financial Services Council and ING, Your Super Future report 2015
4 Source: Association of Superannuation Funds of Australia Statistics, May 2016
5 Source: Callan DC Index 2016
2
By contrast, the DC system in the US
arose from corporate managers taking
advantage of an obscure provision in the
tax code under section 401(k).
%
• Domestic equity
23
• International equity
21
• Domestic fixed income
14
• Cash
13
• Real estate
9
• International fixed income
7
• Unlisted infrastructure
5
• Private equity
5
• Hedge funds
2
• Other
2
Read Greg’s blog at
blog.invesco.us.com
Key takeaways
Required contributions
MEP/superannuation
structure
Employee coverage
– The cornerstone of Australia’s system is compulsory contributions.
– Employers must contribute 9.5% of each employee’s earnings, and employees may contribute up to an
additional 3%.
– Another important facet of the Australian system is the MEP (multiple employer plan).
– The MEPs are called superannuation funds, or the “supers.”
– The supers are generally organized by industry, but there are many options available for workers;
some large employers have their own super.
– Employers typically have a default super for workers who do not make an election.
– Every worker participates in a super, or workers can set up their own self-managed fund (SMSF).2
– Due to the system’s mandatory nature, coverage is close to 100%.
Economies of scale
Heavy use of default funds
– A handful of large MEPs cover the vast majority of participants, creating advantages of scale.
– A large percentage of participants use default investment options.
– Only 31% of workers said they have taken advantage of investment choices beyond the default.3
Use of alternatives
– Alternative and real assets investment strategies are commonly employed, with an average of 17% of DC
plan assets in alternatives and 14% in real assets — similar to DB plans in the US.4
– Real estate is viewed as a standard asset class and is not considered an “alternative.”
– The average real estate allocation: About 5% private real estate and 4% listed real estate (REITs).
This compares to a less than 1% aggregate allocation in US DC plans.4,5
– Other alternative investments such as private equity (5%) and infrastructure (5%) are also relatively common.4
– Mandatory contribution escalation has been very successful.
– Contribution levels started at 3% in 1992 and will increase from 9% in 2012 to an eventual 12% in 2019.
Mandatory employee auto
escalation
Key challenges
Compulsory contributions
and multi-employer structure
Lack of participant
engagement
Super-sized
– Since mandatory contributions are the same across employers, DC plans have become less of a recruiting
tool and employee benefit, and more of a centrally run, non-voluntary system (similar to social security taxes
in the US).
– Most employers have little say in how most supers are managed and are unable to customize the benefit
for workers.
– This is evidenced by relatively large numbers of orphan accounts owned by participants who apparently
“didn’t know the accounts existed.”2
– As many of the supers become titanic in size, there is a growing level of concern around transparency and
governance.3
Bottom line
Every DC system has strengths and weaknesses, but it is clear that some aspects of the Australian system are worthy of further
study in the US. The bottom line is that US employees must save more, and Australia — with a high savings-to-GDP ratio — serves
as a model for what DC systems should strive to achieve.
Access and coverage
More investment
diversification
More difficult to take money
out early
– Mandatory contributions make coverage exceptional at nearly 100%.
– This may not be feasible or desired in the US, but a mandatory contribution with opt-out, similar to the UK,
is closer to what might be acceptable in the US.
– In most cases, diversification is much better than that in the US, due to a more institutional approach and
the inclusion of asset classes like infrastructure, private equity and private real estate.4
– Loans are not allowed, and hardship withdrawals have stricter standards than in the US.
Lower plan costs
– One benefit of the multi-employer aggregation is lower costs, particularly for workers at small employers.
Higher participant savings
rates
– While it’s unlikely that the US would ever adopt a mandatory contribution system like Australia, one must admire
the vision the Aussies had when they decided long ago that 3% contributions would not lead to prosperity.
DC Matters Fall/Winter 2016 3
Food for thought
Read Jeff’s blog at
blog.invesco.us.com
Form 5500 gets a makeover
Key changes
slated for
2019
On July 21, 2016, the
Department of Labor
(DOL) issued proposed
amendments to the 5500
series forms in a “Notice of
Proposed Forms Revisions,”
prepared jointly by three
agencies: the DOL, the
Internal Revenue Service
and the Pension Benefit
Guaranty Corporation,
collectively referred to as
“the agencies.”
Historically, Form 5500
has served primarily as an
information source, but the
agencies are increasingly
relying on information
reported as a key component
of their compliance and
enforcement initiatives.
4
Jeffrey Hemker
National Manager,
Retirement Division
Invesco
With more than 30 years of experience in the
industry, Jeff Hemker has been a featured
speaker at educational seminars and industry
events throughout his career. He is a frequent
blogger and shares his passion for helping
improve participant retirement readiness.
Mr. Hemker graduated from the University of
Wisconsin-La Crosse and Roosevelt University.
He is a Certified Investment Management
AnalystSM (CIMA®) professional.
Form 5500 is the primary source of
information about the operations, funding
and investments of private-sector,
employment-based pension and welfare
benefit plans in the US. The proposed
revisions would add a number of new
reporting requirements designed to aid
the agencies in assessing whether a
retirement plan is being operated and
maintained in compliance with the
Internal Revenue Code and the
Employment Retirement Security Act
of 1974 (ERISA).
to-value assets and underlying holdings
of collective investment vehicles.
2. Service provider fee information.
The proposed revisions to Form 5500
are also aimed at harmonizing the
disclosure requirements on Schedule C
(Service Provider Information) with the
DOL’s service provider fee disclosure
requirements under Section 408(b)
(2) of ERISA. Updated fee reporting will
include those covered service providers
who receive less than $5,000 per year,
especially in “indirect” compensation.
The proposal would require plans to file
separate Schedule C’s for each covered
service provider.
Plan sponsors should consider
whether they currently have systems
in place to capture the new data
required by the proposed revisions.
3. Compliance information. Select new
questions will target issues concerning
plan operations, service provider
relationships and financial management
of plans. The new questions are intended
to compel fiduciaries to evaluate plan
compliance with important requirements
mandated by ERISA and the Code, and
to provide the agencies with improved
tools for oversight and enforcement and
possible future regulation.
The agencies believe the revisions are
necessary because existing forms have
not kept pace with industry changes that
have occurred since the form’s initial
rollout in 1975. This has led to outdated
and missing information that the agencies
believe adversely affect their ability
Although many of the proposed changes,
to protect employee retirement and
if adopted, are targeted for 2019 plan
health benefits.
year filings, plan sponsors should consider
whether they currently have systems
The proposed revisions to Form 5500
in place to capture the new data required
would result in a number of changes
by the proposed revisions. The DOL
to existing reporting obligations
extended the comment period from
for retirement plans. These proposed
Oct. 4 to Dec. 5, 2016, so it will be
changes expand Form 5500’s
interesting to see where the agencies
financial and compliance reporting,
take us at the end of the year.
analytics capability and service provider
information, including:
For more details, the proposals and a fact
sheet are available at www.dol.gov/ebsa.
1. Financial information. The proposal
modifies the asset breakouts on the
balance sheet component of Schedule
H (Financial Information), adding new
sub-categories of assets. The agencies
are pursuing increased granularity of
reporting to enable them to have a
more accurate and detailed view of the
types of assets held by a plan, including
alternative investments, derivatives, hard-
Facts and figures
For more information, visit
invesco.com/dc
DC trends
Matchmaking1
DC plans offering a company match
46.2%
True-up
provisions
$
$
$
78%
Large plans
78% of large DC plans offer
a company match, with a majority
matching 51% to 99% of the
first 6% of salary.
46.2% of plans have a true-up
matching provision (allowing
participants to receive the
maximum match).
Best places outside
the US to retire6
1. Algarve region of Portugal
2. Valletta, Malta
3. Puerto Vallarta, Mexico
4. Cayo, Belize
5. Ljubljana, Slovenia
Unengaged employees2
33.9%
28% have never rebalanced their
401(k) account
31% have never made a change to
their initial investment options
18% have never increased their
contribution amount
28%
31%
Never
Never
rebalanced changed
18%
Never
increased
of plan sponsors say that
they are somewhat or very
likely to reduce or eliminate
the use of revenue sharing
to pay for plan expenses.5
College or retirement3
Parents with children aged 8–14
75%
postpone
69%
college
75% of parents with children aged
8 to 14 are willing to postpone
retirement to pay for their children’s
college tuition.
69% said they favor putting aside
money for their kids’ college before
their own retirement.
70.8%
Financial Achilles heel: Workers’ biggest financial concerns4
66%
Debt
60%
Retirement savings
of plans offered collective
trusts within their fund
lineup in 2015. That’s up
from 60% in 2014.5
51%
Children's education
48%
Basic living expenses
Medical expenses
Collective vehicles
36%
1 Source: 2015 PLANSPONSOR Defined Contribution Survey of plans with assets >$500mm to $1b
2 Source: J.P. Morgan, 2016 Defined Contribution Plan Participant Survey
3 Source: Employee Benefits News, “Parents say they’d sacrifice retirement to send kids to college,” Aug. 15, 2016
4 Source: International foundation of employee benefit plans
5 Source: Callan DC Survey 2016
6 Source: Live and Invest Overseas, 2016 Annual Retire Overseas Index
DC Matters Fall/Winter 2016 5
Retirement
income security:
Challenging
conventional
wisdom
DC Matters interviewed Steven Montagna,
Executive Director of the City of
Los Angeles Deferred Compensation
Program. Under his guidance, the
program has implemented strategies
and tools to boost employee engagement
and help achieve retirement income
security for city employees.
6
Plan sponsor forum
City of Los Angeles
Steven Montagna
Executive Director,
City of Los Angeles
Deferred Compensation Plan
Steven Montagna is a Chief Personnel Analyst
with the City of Los Angeles Personnel
Department/Employee Benefits Division,
where he serves as the Executive Director
of the City’s $5 billion, 42,000-member
Deferred Compensation Plan. He is also
responsible for the City’s Civilian Benefits
Program, which serves 25,000 employees.
He has worked for the City of Los Angeles
for 27 years, and been in a leadership role
with the Deferred Compensation Plan since
1995. Mr. Montagna is also the 2016/2017
President of the Board of Directors for the
National Association of Government Defined
Contribution Administrators (NAGDCA),
an organization of state and local government
agencies administering supplemental
retirement programs.
First, can you discuss your overall without giving them the ability to play
philosophy and core mission of the with choices and assumptions to see how
City’s Deferred Compensation Plan? that might affect their results. We worked
Our mission is to create retirement
income security for our plan participants,
and we’ve spent considerable time
creating a theory and a specific
methodology for what that looks like.
This all happened as part of creating our
retirement income projection calculator
and really engaging with our participants
and getting feedback from them that
helped inform our views.
You mentioned the retirement
income calculator that the
City of Los Angeles provides
to participants. How did you
develop it from concept to
finished product, and how have
participants embraced the tool?
It actually all started with a spreadsheet
that I created about 15 years ago for my
personal use. I was interested in figuring
out what my own income needs were
going to be when I retire, and I wanted
it to be very specific. At some point,
I realized that this could make a great
web tool for all of our plan participants.
We have three different defined benefit
plans within the City of L.A., each
with different rules and multiple tiers.
We wanted to build those rules into the
calculator and make sure that it was
customized to our workforce. Importantly,
we wanted it to be interactive — we didn’t
want to just give people information
hard to strike the right balance between
including enough of the variables that are
essential to coming up with customized
results without overdoing it and trying to
address every single contingency. If we
made it too complicated, people would
disengage. So we were going back and
forth with our plan participants and focus
groups and asking them for feedback to
find that right balance.
When we rolled out the calculator in
October 2013, we really tried to put
it front and center. For example,
after people log in to the Plan website,
this is one of the first things they see.
We’ve done a number of different
campaigns to promote it and create
incentives for participants to use it.
We track the number of times that people
go into it, and our participants have gone
in and used the calculator over 45,000
times. We also did a survey last year,
and one of the questions we asked was
about awareness of the calculator — do
participants know that it’s out there?
We found that 83% of the survey
respondents said that they were aware
of the calculator. We consider that
a huge success.
We’ve done a number of different
campaigns to promote the retirement
income calculator and create
incentives for participants to use it.
Retirement income calculator utilization by participants
Cumulative number of sessions from inception date of Oct. 30, 2013 to June 30, 2016
4Q/13 1Q/14 2Q/14 3Q/14 4Q/14 1Q/15 2Q/15 3Q/15 4Q/15 1Q/16 2Q/16
45,847
50,000
36,278
40,000
24,360
30,000
20,000
10,000
Karen Desjardin/Photographer’s Choice/Getty Images
7,602
DC Matters Fall/Winter 2016 7
Plan sponsor forum
City of Los Angeles
Continued
Retirement income security is
a hot topic for DC plan sponsors.
From your perspective, what is
it and how do you define it?
As I mentioned earlier, we do have
a very specific theory and methodology
for how we approach this question.
In simple terms, the target that we’ve
articulated to our participants is 100%
replacement of what we call “lifestyle
income.” So we look at the nominal
annual salary that somebody is projected
to have when they retire — let’s say it’s
$100,000, for example. And let’s say
that in this example, they’re contributing
roughly 10% to the DB plan and 10%
toward the DC plan. So that comes
out to $80,000 in what we would call
lifestyle income — an employee’s gross
nominal annual salary at retirement
less their primary reductions for
retirement savings.
A simple, versatile theory of retirement income security
30+ year
career
DB and/or
social security
income
DC plan
income
30+ year
retirement
income
security
For illustrative purposes only
The target we’ve articulated to
participants is 100% replacement
of what we call “lifestyle income,”
which is nominal annual salary
upon retirement less primary salary
reductions for retirement savings
(i.e., maintaining one’s working
years’ standard of living)
successful with those three things, then at
the end of the day we’re not going to be
able to meet our core mission or achieve
more successful participant outcomes.
So, the first job is to be able to get your
participants to pay attention to you,
to listen to you. That’s the engagement
piece. The next challenge is to be able
to communicate to them in a language
that they understand and that works with
their own world view. And even if you’re
successful at the first two, it’s that last
What
is
your
approach
to
participant
There are a lot of different interpretations
education? What programs do you piece that’s the most challenging: How
as to what retirement income security
can you support the behavioral changes
offer employees, and do you take
means. We would make the case that
and actions that they need to make in
a segmented approach based on
what makes the most sense as not just
order to be able to create and maintain
a methodology, but more importantly,
either gender or age group?
retirement security for themselves?
as effective language and communication,
We are interested in being able to target
is to frame the objective as 100%
audiences, and I think that’s kind of the
replacement of lifestyle income.
We’ve conducted many focus groups
next frontier for us. As an example,
We think that’s important because people
we did a campaign in which we were
over the years, and there’s never
understand conceptually what 100%
trying to increase enrollment with an
been one in which I didn’t learn that
of anything means. It’s a more difficult
under-enrolled population within the
participants were actually interpreting
concept if you’re saying, “You need 80%
Department of Transportation. We had
of this or so many times final salary, etc.”
information in a way that was very
traffic officers and crossing guards who
Making them do the math may intimidate
different from what we intended.
have historically contributed at very low
them and cause them to turn away from
levels. And we were able to, with a lot
the issue, and leaving it too vague is also
of work, data mine and find out exactly
not helpful. 100% as a concept means
who wasn’t enrolled and reach out to
City of LA is an adopter of white
there’s no reduction to your standard of
them. We did so via mail, in person and
label funds. How have participants
living at the time that you retire. People
at workshops. And it worked. It was
embraced white label funds versus
get that concept.
very successful. Given the size of our
brand name funds?
workforce, however, that kind of approach
That means you don’t have to think about
isn’t something that we can replicate with The only pushback came at the moment
retirement as a time to cut back and
the entire workforce. So we need to come of change, and it was relatively modest
reduce your expectations and your needs.
because we did the best job we could
up with more efficient ways to be able
That’s actually what I regard as the most
before we made the changes to explain
to reach the members. We regard that
empowering aspect of this approach.
why we were making them. We realized
as a central but exciting challenge.
Most of our participants were assuming
there needed to be a communication
they were headed to leaner times in
process where we had to really explain
retirement, and that this was out of their On the topic of challenges — what
what the rationale was for getting rid of
would you consider your top two
control. Once they used the calculator,
branded funds and replacing them with
they found either that they were on
to three challenges?
funds that would be labeled by asset
track to a better outcome or there were
class. We told our participants what we
At the end of the day it all comes down
steps they could take to reach a better
were thinking of doing and asked them
to engagement, communications and
outcome. I can’t even begin to tell you
what they thought about it. We were able
impacting behavioral choices. Everything
how gratifying it’s been to witness that.
to do this via a survey. A clear majority
else we do is certainly important, but it
replied that the idea sounded reasonable.
really is secondary because if you’re not
8
Visit cityofla457.com
to learn more
We ended up making the change very
incrementally, so from the participants’
point of view, they didn’t see everything
change all at once. The only time that we
had a real moment of resistance came
with large-cap funds, and that’s only
because so much of their assets were in
those large-cap funds. But even then,
it was really only a handful of participants
that expressed major concerns. When
you’re talking about 40,000 participants,
that’s not a huge number. Still, we
engaged with them proactively to assist
with the changes. So, the process went
very well, and participants are used
to the investment menu. It’s very rare
that people come forward to us and
ask to add a fund to the lineup because
we have a full brokerage window that
provides access to the broad universe of
investment choices.
I might also add that we wanted to keep
the white label funds asset class specific in
support of our broader objective — to help
participants manage their personal and
unique relationships with risk. When you
introduce too many concepts and make
them too complicated, you can undermine
the participant’s ability to effectively
engage with risk. Understanding the
difference between major market
segments — stocks versus bonds, large
companies versus small companies — are
all part of the risk management equation.
And risk management, of course, is the
number one topic when our participants
come to see us.
employee assistance program, or before
someone even reaches that point we’d talk
to them about insurance programs.
When we talk about managing retirement
expenses, a lot of it is risk management
and people lining up the insurance
they may need to be able to deal with
unanticipated outcomes, or to put money
away to save for particular types of
foreseeable expenses such as long-term
care. We probably need to do a better
job of separating out those conversations
with our participants so they’re not trying
to solve two things with one program.
From a communications perspective, this
adds a new dimension to communicating
to our participants, and I’m really
interested in exploring tools and resources
that we can build to help our members
engage with that retirement expense risk
issue without necessarily marrying it to
the retirement income challenge.
At the end of the day it all
comes down to engagement,
communication and impacting
behavioral choices.
What is your vision for the plan
in the future? What other areas
would you still like to pursue?
From my perspective, I think the next
big phase is really shifting to more of
a rigorous goals and metrics approach —
trying to actually move the data versus
What would you say are leading
just absorbing the data. It’s a mind shift.
attributes to retirement
For example, we may notice that the
readiness?
participation rate is X this year and it was
X last year. That’s one way to look at it.
I think it’s important that a distinction
The other way is to say, “We were at this
be made between “retirement income
rate this year, and next year we want to
security” and “retirement expense
increase that up to some new rate.” Then,
security” as actually two different
concepts. It’s dawned on me recently that as you look at that more closely, you
begin to see how many factors influence
they’ve been kind of muddled together,
the participation rate and your strategies
and we need to separate them. So as an
example, there’s a lot of talk about retirees for creating the desired behavioral
outcome begin to broaden and become
facing higher health care costs and this
more experimental. For example, maybe
is a retirement income security risk. But
one focus needs to be increasing the
that’s not a retirement income problem,
that’s a retirement expense problem. Think gross numbers of new enrollments, and
about it this way: if a bunch of our workers that requires multiple strategies: for new
hires, existing employees, etc. The more
were behind on their mortgages or facing
you do that, the more you start seeing
emergency expenses, we wouldn’t say
the relationship between your strategies
the way to solve those problems is to
increase their pay. We might offer financial and outcomes. Once you truly start
settling into that mindset, the process is
counseling, for example, through an
really never-ending. You’re always in that
constant process of data mining, shifting
the goal-setting, testing out and changing
up strategies, whatever it takes to move
the needle. I think that’s the mind shift
that has yet to institutionalize itself.
The reason I think that’s so important is
because it actually creates accountability
to a much greater extent than the mere
observation of data and trends.
So often I hear things like, “People don’t
understand something because they
didn’t read the material.” Or, “This result
is because this group is really hard to
reach.” It’s a thought process of “Well,
it’s beyond our control.” In fact, though,
we simply have more difficult challenges
in some areas, but our job is to
continually evolve our strategies for
addressing those challenges.
What advice would you offer other
plan sponsors that have faced
similar challenges?
First is to really focus on communication,
goals and outcomes – to find as many
ways as you can to tap into the minds of
your participants. Find out what they’re
thinking rather than presume what they’re
thinking. The focus group concept is great.
I’ve done so many of them over the years,
and there’s never been one in which
I didn’t learn that participants were actually
interpreting information in a way that was
very different from what we intended.
Another thing that I think is crucial is
having the willingness to think outside
the box and to really challenge
conventional wisdom. There is a lot of
thinking in our world that’s been around
for a very long time, and yet we live in
a time when the pace of change is really
speeding up and the things that worked
in the past may not any more. We’re in
a process of relentless reinvention.
I would really encourage all plan sponsors
and everybody that’s involved in the
industry to always be looking through
that lens. I think that’s also the part
that makes our work the most fun and
rewarding — creating something new and
seeing people connect with it.
DC Matters Fall/Winter 2016 9
Hail to the chief (economist)
Global economic outlook
Read John’s blog at
blog.invesco.us.com
Central banks continue
to play a pivotal role
in financial markets
For the world as a whole, 2017 will be another year of
only moderate growth, with inf lation below target in
many economies. While the business cycle upswing in
the US should continue, its beneficial effects could be
undermined from time to time by de-leveraging in the
largest EM economies or by instabilities arising from the
Eurozone or from Brexit.
•Central banks
–– On Aug. 4, the Bank of England (BoE)
cut Bank Rate to a record low 0.25%,
renewed quantitative easing (QE) with
a further planned purchase of 70 billion
pounds sterling, and added a new “Term
Funding Scheme” to encourage banks to
Based in London, John Greenwood is Chief
make more loans to businesses.
Economist of Invesco Ltd. with responsibility
for providing economic analysis and forecasts
–– Despite active speculation that the
to Invesco portfolio managers and clients.
European Central Bank (ECB) would
ultimately need to extend its QE
purchase program, the Governing
Council decided to take no actions on
Summary
either July 21 or Sept. 8.
•Brexit
–– The US Federal Reserve’s (Fed) Federal
Open Market Committee (FOMC) decided
–– All meaningful outcomes are in suspense
at its July 26–27 and Sept. 20–21
until the British government declares
meetings to take no action. Anxiety
its hand by triggering Article 50 of
about relatively weak growth at home
the Lisbon Treaty which initiates the
and subdued inflation, plus concern
procedure for a country to leave the EU.
about weakness abroad again induced
Recently, UK Prime Minister Theresa
postponements of any interest rate
May has said that this would happen by
rise. The market now expects a 0.25%
the end of March 2017.
interest rate hike in December.
–– My view is that, irrespective of the start
date, the process is likely to be long and –– In the US, and to a lesser degree other
developed economies, the long bond
painful. Volatility in financial markets —
market appears to be finally approaching
at least for sterling assets — is therefore
a major turning point after some 35
likely to be the hallmark of the next
years of consistently falling yields.
few years.
If so, this could have a major impact on
a whole range of asset classes.
John Greenwood
Chief Economist
Invesco
10
US
1.5%
UK
1.7%
Eurozone
1.5%
With the exception of sterling,
global financial markets have
recovered from the initial shock
of the UK’s Brexit decision.
Invesco’s CPI forecast
US 2016 CPI inflation
forecast
CPI
Eurozone 2016 CPI inflation
forecast
CPI
1.1%
0.2%
Source: Invesco as of Sept. 12, 2016
2015 inflation and growth
• Consensus real GDP
• Consensus CPI inflation
US
Eurozone UK
Japan
Australia Canada
China
India
%
8
7
6
2016 consensus real GDP forecast
7.4
6.9
5
4.9
4
3
2
1
0.1
2.4
2.2
1.9
0.0
0.0
1.5
0.6
1.4
1.1 1.1
0.8
2016 inflation and growth forecasts
• Consensus real GDP
• Consensus CPI inflation
US
Eurozone UK
Japan
• Invesco real GDP
• Invesco CPI inflation
Australia Canada
China
India
%
5.2
5.1
6
7.6
7.5
6.6
6.6
8
2.0
1.6
1.3
1.3
1.2
1.0
1.6
1.1
2.9
2.7
-0.2
-0.1
0
1.5
1.6
0.2
0.2
1.7
1.7
0.7
0.7
0.6
0.8
2
1.2
1.1
4
1.5
1.5
Japan
0.6%
2.6
Source: Consensus Economics, survey date: Sept. 12, 2016
DC Matters Fall/Winter 2016 11
Hail to the chief (economist)
Global economic outlook
Continued
–– The overall picture for developed
economies is therefore one in which both
growth and inflation will remain subdued.
While central banks maintain or expand
their assets, other financial institutions,
firms and households outside the central
banks continue to experience low money
and credit growth.
–– Beyond that, emerging market (EM)
commodity producers are likely to
continue to suffer further commodity
price weakness and currency
depreciation, while EM manufacturers
should start to benefit from the steady
recovery in the US.
The US consumer has higher
savings, less debt, and stronger real
take-home pay than in several years.
This has been the basis for the US
economy continuing to make steady
progress while other economies
have faltered.
United States
US real GDP improved in Q2 2016 only
slightly to 1.1%. However, on Sept. 30,
the Atlanta Fed’s “Nowcast” estimate of
real GDP for the third quarter was 2.4%.
Although still too early to be reliable, this
estimate is more consistent with recent
nonfarm payroll data which recorded firm
increases averaging 232,000 per month
in the June-August period. Although
personal consumption spending has been
reasonably buoyant, there are areas of
the economy, such as corporate capital
equipment spending, that are still running
at well below past norms, implying that
the overall outlook for the economy
remains subdued.
The US consumer has higher savings,
less debt, and stronger real take-home
pay than in several years. This has been
the basis for the US economy continuing
to make steady progress while other
economies have faltered. Hourly wage
growth remained firm in August at 3.3%,
according to the Atlanta Fed’s median
wage growth tracker. Reflecting these
tailwinds, real consumer spending was
up 2.7% over the year to the end of the
second quarter.
12
However, the main area of concern in
the US economy continues to be the
health of the corporate sector. Following
the steep cutbacks in capital spending
by the energy sector in 2015, there
has been little recovery in this sector,
while the combination of a strong dollar
and weak world trade have eroded the
growth of overall corporate revenue
which has slowed to 2.1% year-on-year
in Q2 2016. Although interest rates
and energy prices remain low, slowing
profits, political uncertainties ahead
of the election, and weakening growth
abroad have lowered business confidence.
One striking consequence has been the
persistent weakness of capital spending
by businesses.
The Eurozone
In the eighteen months since the ECB
started its QE purchases of government
bonds in March 2015, the economies of
the Eurozone had gradually started to see
some signs of improvement, but in Q2
2016 GDP slowed to 0.3% from 0.5%
in Q1 2016. This translated into a growth
of 1.6% year-on-year in Q2 2016, slightly
down on the 1.7% seen in the previous
quarter. The slowdown occurred despite
fiscal spending restraints becoming less
of a drag on overall GDP.
While the long-term consequences of
the Brexit decision should favor the
rest of the EU at the expense of the UK
(particularly in the financial sector and
foreign direct investment), in the short
term, the shocks to Eurozone activity that
will flow from weaker sterling and some
slowdown in the UK will adversely affect
the other EU economies. For 2016 as a
whole, I therefore expect real GDP growth
of 1.6% and CPI inflation of 0.2% for
the Eurozone.
United Kingdom
Since the referendum, there have
been numerous surveys suggesting
that consumer spending has remained
buoyant, while business investment
has slowed. Consumers are temporarily
benefiting from improved wages and
higher employment, and have not yet
been affected by the decline in sterling,
but it is widely expected that the price
increases from the weaker currency will
start to undermine real take-home pay
over the winter months.
Similarly in the business arena, there
have been offsetting forces at work.
On the one hand the cheaper pound has
given a temporary competitive boost
to exporters, but on the other hand
numerous projects involving foreign direct
investment (FDI) have been put on hold.
With all these changes flowing from the
Brexit decision, I now expect the economy
to grow at 1.7% for the year as a whole,
and about 1% in 2017.
Japan
Revised GDP data now show that Japan’s
real GDP increased by 2.1% (at an
annualized rate) in Q1 2016, slowing
to 0.7% annualized in Q2. The erratic
pattern of Japan’s GDP estimates is
reflected in the fact that these figures
translated into year-on-year growth rates
of 0.2% and 0.8% only.
The continuing sense of underlying
economic weakness and the persistent
failure to achieve the Bank of Japan’s
(BoJ) inflation target of 2% were the main
reasons why the central bank undertook
a major “assessment” of its quantitative
and qualitative easing (QQE) policy.
Follow us on twitter at
twitter.com/InvescoUS
Against this weak growth background,
inflation has again returned to negative
territory. In August, the headline and core
national CPI rates recorded -0.5% and
-0.4% year-on-year, respectively.
The headline figure has now been in
negative territory on a year-on-year
basis for five months, while the CPI ex
food prices has been falling for eight
successive months. Three factors
have affected the CPI data in the
past two years: an upward spike from
the consumption tax in April 2014;
downward effects from the roughly 20%
strengthening of the yen since mid-2015;
and lower oil prices.
prices, but those price declines are
hurting some of their key export markets
such as Brazil and Indonesia.
Conclusion
With the exception of sterling, global
financial markets have recovered from the
initial shock of the UK’s Brexit decision.
Europe has been largely pre-occupied
While China continues to slow,
with the continuing problems of its
the India economy has been gradually banking system, most recently in Italy and
Germany, a consequence of two factors:
improving its performance. Indian
the failure to recapitalize banks on a
growth now regularly surpasses
systemic basis (as was done in the US);
that of China.
and the failure to re-liquefy the economy
by means of a well-designed QE program
or other measures. The result has been
Commodities
a prolonged, sub-par recovery.
During the past several years commodity
The US has continued to grow at
prices have consistently collapsed during
a moderate rate, and it seems likely that
the final calendar quarter. This year that
China and non-Japan Asia
this trajectory will enable the Fed to raise
trend looks likely to be broken. At the
interest rates in December, and then
end of September the S&P GSCI spot
While China continues to slow, the India
economy has been gradually improving its index was up over 23% since the start of again once or twice in 2017. In other
words, the business cycle will continue to
performance. Indian growth now regularly the year, although it is still 53% below
expand, irrespective of the political cycle.
its
average
over
the
last
5
years.
Three
surpasses that of China. Even so, China’s
factors explain this outcome: stronger
economy is in many ways much more
In Japan the economy continues to
growth in Asia outside of China; some
open, having a much larger trade sector
reduction in supply; and the fading of the struggle to generate positive growth or
than India. Thus, while China exported
inflation. As in Europe, there has been
effects of the strong US dollar. Together
over US$2.2 trillion worth of goods in
2015, India exported only US$355 billion. these have led to commodity price indices inadequate focus on balance sheet repair
and the re-liquefication of the economy
rising from their nadir in January 2016,
The differences on the import sides are
by means of QE or banking sector
but a positive outlook for commodities is
similar, implying China will continue to
expansion.
by
no
means
guaranteed.
have a far bigger regional (and global)
impact than India.
Finally, some of the large EM economies
Unquestionably, the major driver of
are now in urgent need of an extended
The slowdown in China and in world trade commodity markets in the last decade
period of de-leveraging, which seems
was
the
rapid
growth
of
China,
which
has hit the smaller East Asian economies
almost certain to undermine their
is also the dominant end-user for a
especially hard. Asian emerging markets
growth rates going forward, thus keeping
whole range of commodities. Therefore,
are heavily reliant on exports. Therefore,
commodity prices subdued. In the wake
declines in exports are having a sustained the sustained slowdown in the Chinese
of China’s debt explosion, the only large
economy,
the
emergence
of
massive
effect on East Asian economies’
EM economy that is capable of growing
excess capacity in key industrial sectors
reported GDP figures, many of which
vigorously is India, but the government
in China, as well as structural changes
have slowed to low single-digit growth
appears hesitant to implement the radical
in the energy sector brought about
rates. In addition, these economies
reforms necessary to expand its foreign
by
new
supplies
from
unconventional
have experienced a depreciation of
trade sector.
sources such as shale, solar and wind,
their currencies against the US dollar,
have inevitably led to substantial falls in
coinciding with the fall in exports that
For the world as a whole, 2017 will be
commodity prices.
began in early 2015 and has persisted
another year of only moderate growth,
since. This has affected almost all the
with inflation below target in many
smaller East Asian economies.
economies. While the business cycle
The US has continued to grow at
upswing in the US should continue, its
Until global demand strengthens —
a moderate rate, and it seems
beneficial effects could be undermined
especially in the Euro-area and Japan
likely that this trajectory will enable from time to time by de-leveraging in the
— and China succeeds in stabilizing its
the Fed to raise interest rates in
largest EM economies or by instabilities
growth rate, it seems likely that the
arising from the Eurozone or from Brexit.
December, and then again once or
smaller East Asian economies will not
regain their past vigor. They may benefit twice in 2017.
marginally from cheaper commodity
All data provided by Invesco unless otherwise noted. Where John Greenwood has expressed opinions, they are based on current market conditions as of Oct. 3,
2016 and are subject to change without notice. Unless otherwise specified, data was supplied by Mr. Greenwood.
DC Matters Fall/Winter 2016 13
Investment corner
Under the hood
The role of
commodities
Participants are likely to
face different economic
environments throughout
the accumulation and
distribution phases of
their investing life cycle.
Inf lationary growth is one
economic environment that
poses a significant risk to
participants’ assets if their
portfolio is not constructed
appropriately to hedge
inflation. For those in or
near retirement, one of their
top concerns is losing the
purchasing power of their
assets. For younger investors,
reducing inflationary risk
is important to achieving
real growth, wealth
accumulation and
a comfortable retirement.
Scott Wolle, CFA®
Chief Investment
Officer and Portfolio
Manager
Invesco Global Asset
Allocation
Scott Wolle is the Chief Investment Officer
and a Portfolio Manager for the Invesco Global
Asset Allocation team, which invests in stock,
bond and commodity markets worldwide.
Mr. Wolle joined Invesco in 1999 as an analyst
and portfolio manager, and became a member
of the Global Asset Allocation team in 2001.
He assumed his current role in 2005. Mr. Wolle
graduated magna cum laude from Virginia
Tech with a degree in finance. He earned an
MBA from the Fuqua School of Business at
Duke University, with the distinction of Fuqua
Scholar. He is a CFA charterholder.
14
Sapna Reddy Photography/Moment/Getty Images
In this article, we’ll examine how
commodities have historically served as
an inflation hedge, and discuss how they
may be implemented in a DC plan as part
of a larger, diversified strategy.
Equities and fixed income are both wellunderstood asset classes with clear roles in
a portfolio. Commodities do not enjoy these
same benefits and have spawned debate
about how plan sponsors should use them.
Key benefits
There are two key benefits of adding
commodity exposure portfolios such
as target date, target risk or real asset
strategies:
1. Potential inflation hedge
2. Portfolio diversification
In addition, there is the question of
whether an allocation to commodities
has generated a risk premium over time.
In our experience, this has been one of
the greatest obstacles for plan sponsors
when considering an allocation to the
asset class. Finally, we look at the recent
environment and how the decline in prices
could indicate an attractive opportunity
for future returns.
Potential inflation hedge
Investors commonly argue that stocks
offer an effective hedge against inflation.
The simplest version of this argument is
that earnings will rise along with inflation,
and therefore investors will be protected.
This claim rests on the following equation:
Earnings do indeed grow along with
inflation; however, real earnings growth was
roughly zero during the 1970s and 1980s
when inflation was high. Conversely, real
earnings growth has been much higher over
the last 25 years when inflation was low.
Inflation is often separated into expected
and unexpected inflation. Commodity
strategies have historically provided a
hedge against both. Exhibit 2 shows the
one-year excess return of commodities
and one-year unexpected inflation.
In contrast, commodities have had a
distinctly positive relationship with
inflation. Two primary reasons for this
include the clear flow-through effects of
commodity prices as well as monetary
impacts when countries attempt to reduce
the value of their currencies.
These findings are also consistent
with prior studies including Bhardwaj,
Gorton and Rouwenhorst, who found
a 0.47 correlation between commodities
and inflation on a five-year horizon
from 1957 to 2014, and a 0.65
correlation for the 2005-2014 period.2
Exhibit 1: P/E has decreased as inflation has risen
S&P 500 cyclically adjusted P/E
• YoY inflation
Adjusted <4%
P/E %
25
4–10%
>10%
21.3
20
14.3
15
9.3
10
5
Sources: DataStream and Invesco analysis. Period represented: Dec. 31, 1950, through Dec. 31, 2015.
Exhibit 2: Commodities correlated to unexpected inflation1
High correlation with unexpected inflation
• Unexpected inflation • Commodity excess return
12/70
Stock Price = Price/Earnings Ratio x Earnings
This assumes that the price/earnings
(P/E) ratio remains constant and
that earnings will grow in real terms.
Unfortunately, the first assumption
has not been validated in periods when
inflation rises substantially.
Exhibit 1 considers the behavior of US
companies’ P/E ratios during inflationary
environments. Using a cyclically adjusted
P/E ratio to eliminate the effect of the
business cycle, it suggests that the
current level of inflation may be ideal
for equities. As inflation has risen, the
average P/E ratio has fallen.
Unexpected
inflation %
12
10
8
6
4
2
0
-2
-4
-6
12/75
12/80
12/85
12/90
12/95
12/00
12/05
12/10
12/15
Commodity
excess
return %
120
100
80
60
40
20
0
-20
-40
-60
Sources: Bloomberg L.P., DataStream and Invesco analysis. For illustrative purposes only. Commodity excess
return above the US 30-day Treasury Bill. Data from Dec. 31, 1970 through Dec. 31, 2015. Unexpected
inflation is defined as year-over-year inflation relative to its 5-year moving average. Commodity excess return
is the rolling 12-month excess return index are represented by the S&P GSCI Light Energy Index from Dec. 31,
1970 through Dec. 1, 1998 and the Deutsche Bank Liquid Commodity Index from Dec. 1, 1988 through
Dec. 31, 2015. Inception dates for the S&P GSCI Light Energy Index and Deutsche Bank Liquid Commodity
Index are May 1, 1991 and Feb. 28, 2003, respectively. All information presented prior to the inception dates
is back-tested. Back-tested performance is not actual performance, but is hypothetical. Although back-tested
data may be prepared with the benefit of hindsight, these calculations are based on the same methodology that
was in effect when the index was officially launched. Index returns do not reflect payment of any sales charges
or fees. Past performance cannot guarantee future results. An investment cannot be made in an index.
DC Matters Fall/Winter 2016 15
Investment corner
Under the hood
Continued
Exhibit 3: Stocks, bonds and commodities have responded differently
to the economic environment1
Asset
Performance as growth rises
Performance as inflation rises
Bonds
Stocks
The relationship between
equities and commodities is more
ambiguous, but investors still
would not expect a high correlation
between the asset classes.
Commodities
Source: Invesco analysis and DataStream. For illustrative purposes only. Data from Jan 1, 1973 through
Dec. 31, 2015. Bonds represented by Barclays US Treasury Index, commodities by the S&P GSCI and
equities by the S&P 500 Index. Inception date for the S&P GSCI is May 7, 2007. All information presented
prior to the inception dates is back-tested. Back-tested performance is not actual performance, but is
hypothetical. Although back-tested data may be prepared with the benefit of hindsight, these calculations
are based on the same methodology that was in effect when the index was officially launched. Index returns
do not reflect payment of any sales charges or fees. Past performance cannot guarantee future results.
An investment cannot be made in an index.
Portfolio diversification
There is a straightforward framework
to consider how various assets react
to different market environments.
Looking at Exhibit 3, one would expect
government bonds to benefit when
growth and inflation fall. This implies
a low or negative correlation with
commodities, which tend to benefit when
growth and inflation rise. The relationship
between equities and commodities is
more ambiguous, but investors still would
not expect a high correlation between
the asset classes.
As it turns out, this simple framework
fits well with the historical record.
Exhibit 4 compares correlations
across stocks, government bonds and
commodities. Two observations stand out:
1. There is a low correlation among the
commodity complexes, especially
compared with stocks and bonds.
2. Equities, bonds and commodities
have historically had low or negative
correlation with each other.
These observations have implications for
the value of investing in commodities.
The potentially low correlation of
commodities with traditional asset classes
should allow investors to create diversified
portfolios with a higher expected return
per unit of risk. Low correlations among
the commodity complexes can provide
opportunity for high return simply
through rebalancing.
Potential for excess return
Robbie George/National Geographic/Getty Images
16
The potential inflation hedge
characteristics and diversification
benefits of an allocation to commodities
are supported by the historical
performance of the asset class. However,
many investors remain skeptical that
commodities deserve a strategic
allocation and believe they will likely
be a drag on portfolio performance in
the absence of inflation. Most longterm studies of commodities refute
this skepticism. Indeed, most indicate
Read our blogs at
blog.invesco.us.com
Exhibit 4: Low correlation can create an opportunity to build
a better portfolio1
the asset class has return and risk
characteristics similar to equities.
30-year correlation within asset classes
Commodity corrections
Stocks
Bonds
30-year correlation across asset classes
0.6
Stocks
Commodities
Bonds
Commodities
0.3
0.8
Correlations
within the
commodity
asset class
are low
0.60
0.50
0.4
0.04
0.02
0.0
-0.05
0.20
0.2
None of the asset classes are highly
correlated with one another
-0.3
Sources: Datastream, Invesco analysis. Data from Dec. 31, 1986, through Dec. 31, 2015. The FTSE 100
Index inception is Jan 3, 1984. The EuroStoxx50 Index inception is Feb. 26, 1998. The Tokyo Stock Price
Index inception is July 1, 1969. All information presented prior to the inception dates is back-tested.
Back-tested performance is not actual performance, but is hypothetical. Although back-tested data may
be prepared with the benefit of hindsight, these calculations are based on the same methodology that was
in effect when the index was officially launched. Index returns do not reflect payment of any sales charges
or fees. Past performance cannot guarantee future results. An investment cannot be made in an index.
In the left chart, stocks represented by the S&P 500, FTSE 100, EuroStoxx50 and Tokyo Stock Price Index.
Bonds represented by US Treasuries, UK Gilts, German Bunds and Japanese Government Bonds.
Commodities represented by S&P GSCI sub-indexes for Agriculture, Energy, Precious Metals and Industrial
Metals. This compares correlations within each asset class. The right chart uses the same asset class
proxies to compare correlations across the asset classes. Data begins at first common inception date of all
indices using a correlation matrix to represent asset class correlation.
Exhibit 5: Major commodity corrections1
The experience since 2008 has been as bad as any in modern history
• 1974 • 1980 • 1997 • 2008
Months from peak
Index value 1
100=peak
1,000
120
20
40
60
80
100 120
100
05/97
12/15
-66%
80
-55%
-41%
10/80
-51%
100
11/74
400
-46%
700
06/08
Commodity
excess
12/70 12/80 12/90 12/00 12/10
return index2
Of course, the weak performance of
commodities from 2011 through early
2016 makes some people question
whether this reflects an inability to
produce attractive returns in the future.
On the contrary, like most assets, the
decline in price can create an attractive
opportunity for future returns.
The severity of the current commodity
correction is striking. There have been
four major commodity bear markets in
modern times — starting in 1974, 1980,
1997 and 2008 — as depicted in Exhibit 5.
In particular, the most recent bear market
— starting at the end of 2008 — has been
the worst experience in modern history.
The weak performance of
commodities from 2011 through
early 2016 makes some people
question whether this reflects
an inability to produce attractive
returns in the future.
For more familiar assets like stocks and
bonds, a decline in price makes it less
expensive to buy the cash flows that
the asset will produce in the future.
In commodities, the decline in price puts
pressure on commodity producers to
reduce capital spending, reduce production
and, sometimes, go out of business.
60
Summary
40
Commodities can play a very important
role as an inflation hedge and diversifier
within a portfolio while still offering
reasonable return expectations. While
plans may be concerned that many
participants wouldn’t know how to
properly allocate to a standalone
commodities option, we believe
commodities can play an important
role in a plan as part of a professionally
managed, diversified strategy such as
a target date or risk-based option.
20
Sources: DataStream and Invesco analysis. For illustrative purposes only. Data from Jan. 31, 1970 through
Dec. 31, 2015. The four periods of loss are named for the year in which commodities reached a major
local peak. The recovery is considered complete when the index exceeds the prior local peak. Prior to
Jan. 1 1991, commodities are represented by the S&P GSCI Light Energy Index. Starting Jan. 1, 1991,
commodities are represented by the Bloomberg Commodity Index. Inception dates for the S&P GSCI Light
Energy Index and Bloomberg Commodity Index are May 1, 1991 and Jul. 14, 1998, respectively.
All information presented prior to the inception dates is back-tested. Back-tested performance is not actual
performance, but is hypothetical. Although back-tested data may be prepared with the benefit of hindsight,
these calculations are based on the same methodology that was in effect when the index was officially
launched. Index returns do not reflect payment of any sales charges or fees. Past performance cannot
guarantee future results. An investment cannot be made in an index.
1 Includes back-tested data.
2 ”Facts and Fantasies about Commodity Futures Ten Years Later,” May 25, 2015, by Bhardwaj, Gorton and Rouwenhorst.
3 Excess return above Treasury bills.
DC Matters Fall/Winter 2016 17
Participant communications
Women, wisdom and wealth
To learn more, visit the
participant communication
page at invesco.com/dc
Save
more
Helping
women
Facts and figures
Social Security benefits
are not enough to live on
$1,500 Men
$1,182 Women
The average monthly
benefit for retired workers
in 20151
Longer life expectancies
= longer retirements
86.6 years
Women’s average life
expectancy in 20152
Did you know?
Of the 63 million US
female workers
(age 21 to 64), just
44%
participated in
a retirement plan.3
18
Lisa Kueng
Director, Creative
Campaigns
Invesco Consulting
Lisa Kueng is a national speaker and the
developer of many of Invesco’s consulting
programs, including the “Your Prosperity
Picture” workshop for women investors and
“The New Retirementality,” and is co-author
of “Picture Your Prosperity: Smart Money
Moves to Turn Your Vision into Reality.”
Ms. Kueng has been a keynote presenter at
hundreds of industry conferences and has
been featured in Business Week, The New York
Times, NPR’s “Marketplace Weekend” and
Fund Marketing Alert. Ms. Kueng holds a BS
degree in journalism with a concentration in
speech communications from the University
of Illinois and has earned her Registered
Corporate Coach designation. She is currently
a member of the Invesco Women’s Network,
a volunteer for One Million Degrees and a regular
guest speaker at Loyola University in Chicago.
As a plan sponsor, you want
all of your participants to be
educated on the importance The risks of not being prepared
of retirement planning.
Before I answer that question, I want to
But research has shown that reinforce why this topic is so important.
a one-size-fits-all approach
Women have longer average lifespans
to communication isn’t
than men, yet tend to underestimate how
much they need to save for retirement.
the most effective tactic.
The chart below shows that women
generally expect they’ll need less in
retirement savings than men. But the
truth is that they will likely need more.
For example, a 2012 study reported
that a healthy 65-year old woman can
expect cumulative health care expenses,
including premiums, to top $417,000,
nearly 13% higher than those for men.4
And while it’s impossible
to customize messages
person by person, it turns
out that it’s quite easy to
customize them by one
big factor: gender. It’s
widely accepted that there
How much savings do you think
are differing preferences in
is needed for retirement?
communication styles and
Men Women
learning techniques between %
most men and most women. Less than $250,000
28
32
The question is: How can
you adjust your message
in a way that’s enlightening,
not alienating for your
female participants?
$250,000–$499,999
19
22
$500,000–$999,999
22
21
$1M–$1.49M
10
7
$1.5M+
12
8
5
8
Don’t know or remember
Source: ebri.org, 2013 Retirement Confidence Survey
Fact Sheet #5, “Gender Comparisons Among Workers”
Clearly, we need to make sure that our
participant communications are being
heard by women.
Avoiding labels
At this point, you may be thinking that
I’m going to suggest a series of womenbranded workshops or educational flyers
stamped in pink.
But I’m not.
When Invesco Consulting began the
process of creating a workshop for
women investors, we tested numerous
options for titles with specific references
to women, and one of the first things
we heard from women investors is that
they do not want to be singled out
by their gender. In fact, any title that
included a gender reference — such as
“What Women Know About Money”
or “The Female Financial Advantage” —
consistently scored in the bottom 20%
of our dial session research.
Why? Because women often view
these approaches as carrying a subtle
suggestion of inferiority, as if the
“women’s version” was created for
those who don’t qualify for the regular
workshop. We found that a better
approach is to create educational
workshops and materials with the
preferences of women in mind, but which
don’t highlight them as “special” or
“different.” In other words, simply
work to meet the needs of your women
participants — without labeling them.
Simply work to meet the needs of
your women participants — without
labeling them.
Three key principles
This is the approach Invesco Consulting
took when creating our investor education
workshop “Your Prosperity Picture”
(notice the lack of women-specific labels
in the title). We found that there are three
key principles that resonate with many
women investors, and we incorporated
these in our program:
1. Provide experience before explanation
2. Align life goals with financial goals
3. Be positive
Principle No. 1: Provide
experience before explanation.
According to the College Student
Journal, women tend to be “Relational
Learners” while men are usually more
“Independent Learners.” We found that
beginning a workshop with an interactive
activity (instead of just launching into
a presentation) can be a great way
to tap into that learning preference
for many women.
But what kind of activity? In my last
column for DC Matters — “What will
retirement look like?” — I discussed the
power of visualization exercises. Science
has shown us that if you visualize a
particular goal that requires financial
resources, such as traveling or pursing
a hobby, it helps to condition the brain to
look for information and resources that
might help in achieving that goal. Walking
investors through a visualization exercise
that focuses on their goals can be a great
way to begin a financial workshop.
Principle No. 2: Align life goals
with financial goals.
One study has shown that women
who feel their financial advisors have
successfully helped them align their
investment goals with their life goals
are 41% more likely to be satisfied.5
In “Your Prosperity Picture” workshops,
we do this by walking investors through
the process of creating a visual financial
plan that illustrates their short-term and
long-term goals, and organizes them by
the amount of financial resources that will
be necessary to make those goals happen.
Once investors are talking and thinking
about their vision for their retirement,
the next logical step is to connect that
vision with your retirement plan benefits.
You’ve set the stage to talk about
practical strategies geared toward making
their goals happen.
Principle No. 3: Be positive.
I started this column with some fairly
sobering statistics about women and
longevity risk. I did that to set the stage
for you, the plan sponsor, but I would not
include these in an investor workshop.
Our research has clearly shown that
negative spin doesn’t sit well with most
women investors, and trying to scare
them into action can backfire. In fact,
the principle of being positive is so powerful
that it actually transcends gender.
It’s proven to be one of the most important
and consistent language trends that
Invesco Consulting has seen since we began
doing our language research in 2007.
What does this mean for plan sponsors?
Rather than focusing on the possibility
of negative outcomes and how to avoid
them, focus on achieving what’s possible.
Position your benefits plan as a way to
help investors reach their goals, rather
than taking a gloom-and-doom approach.
Bottom line
In general, women and men have different
learning styles and communication
preferences, but women don’t want to
be singled out. A workshop designed for
these needs won’t include “women” in the
title, but will follow three key principles:
providing experience before explanation,
aligning life goals with financial goals, and
maintaining a positive message.
1 Source: Social Security Administration, “About Social Security: Fast Facts & Figures,” Aug. 2016
2 Source: Social Security Administration, “Social Security is Important to Women,” June 2015
3 Source: Employee Benefits Security Administration and US Department of Labor, Women and Retirement Savings, Sept. 2015
4 Source: Insured Retirement Institute, “IRI Exclusive: Escalating Health Care Costs Threaten to Erode American’s Retirement Savings,” Jan. 10, 2012
5 Source: “Harnessing the Power of the Purse: Female Investors and Global Opportunities for Growth” by Sylvia Ann Hewlett and Andrea Turner Moffitt with
Melinda Marshall. ©2014 Center for Talent Innovation. All rights reserved.
DC Matters Fall/Winter 2016 19
What’s up on Capitol Hill?
The Commission speaks
Securing our financial
future: Report of
the Commission on
retirement security
and personal savings
A large segment of Americans
struggle to save for any purpose.
Millions are anxious about their
preparation for retirement as well
as their difficulty accumulating
a savings cushion for short-term,
unexpected needs.
Policymakers are concerned
about the consequences of
insufficient retirement savings
for individuals, families and
the nation. Recent economic
headwinds — stagnating wages
and weak economic growth —
have heightened these anxieties.
20
James B. Lockhart III
Vice Chairman, WL Ross &
Co. LLC, an Invesco company;
Co-Chairman, Commission
on Retirement Security and
Personal Savings
James B. Lockhart III is the Vice Chairman
of WL Ross & Co. LLC where he is a member
of the management committee, oversees the
financial services investment team and serves
on investment committees including two
mortgage funds. Prior to joining WL Ross
& Co., Mr. Lockhart served as the director
of the Federal Housing Finance Agency and
chairman of its Oversight Board, and was the
director of its predecessor agency, the Office
of Federal Housing Enterprise Oversight.
He also served on the Financial Stability
Oversight Board, overseeing the Troubled
Asset Relief Program (TARP). Mr. Lockhart
was the deputy commissioner and chief
operating officer of the Social Security
Administration and executive director of the
Pension Benefit Guaranty Corporation. He also
served as a lieutenant (j.g.) in the US Navy
aboard a nuclear submarine. Mr. Lockhart
earned an MBA from Harvard University and
a BA from Yale University. He is a director of
Virgin Money in the UK, Bank of the Cascades,
Capital Markets Cooperative, Shellpoint
Partners, Situs Holdings and the Bruce
Museum. In 2009, he received The American
Financial Leadership Award from the Financial
Services Roundtable. He is a fellow of the
Association of Corporate Treasurers in the UK.
Visit the BPC web site at
bipartisanpolicy.org
Orhan Cam/shutterstock.com
Introduction
The nation’s retirement system has many
strengths, but it is also experiencing
challenges. Retirement and savings
policies have evolved over the decades
into a true public-private partnership.
Assets in workplace retirement savings
plans and Individual Retirement Accounts
(IRAs) have grown dramatically over
the last four decades, but too many
Americans are still not preparing
adequately. Social Security remains the
base of financial support in old age for
most Americans, yet the program faces
substantial financing problems. A long
history of bipartisanship built these
systems to promote savings and improve
retirement security, but much work
lies ahead.
To address these challenges, the
Bipartisan Policy Center (BPC)
launched the Commission on Retirement
Security and Personal Savings in 2014.
Over the last two years, our 19-member
commission has carefully reviewed
the issues and explored many potential
approaches to boost savings and
strengthen retirement security.
We are encouraged that the issues
of savings and retirement security have
attracted bipartisan interest among
business leaders, the media, elected
officials in Congress, the administration,
and the states, as well as from candidates
seeking public office. We hope that the
commission’s recommendations will
contribute to meaningful action
by individuals, businesses and
government to achieve a secure
retirement future for all Americans.
Workers have found themselves part of
a great experiment — one that has given
individuals and families far more control
and responsibility for financing their own
retirement, and simultaneously exposed
them to greater risk.
Workers have found themselves
part of a great experiment — one
that has given individuals and
families far more control and
responsibility for financing their
own retirement, and simultaneously
exposed them to greater risk.
Today, more than in the past, personal
responsibility is of central importance in
retirement preparedness — individuals
and families can’t afford to take a passive
approach to retirement savings — but
that doesn’t mean everyone should be
or can be on their own. People need the
assistance of a well-designed system as
they accumulate, invest and spend down
their retirement savings. Public policy has
a critical role to play in facilitating savings
and a secure retirement.
Background
The commission addressed
six key challenges:
Tectonic shifts in demographics, policy,
and the marketplace have transformed
the US retirement landscape. The most
profound change has been an ongoing
shift by many employers from defined
benefit pensions to defined contribution
plans. As a result, the 401(k) — previously
an obscure section of the tax code — has
become a household name.
1. Many Americans’ inability to access
workplace retirement savings plans
2. Insufficient personal savings for
short-term needs, which too often
leads individuals to raid their
retirement savings
3. Risk of outliving retirement savings
4. Failure to build and use home equity
to support retirement security
DC Matters Fall/Winter 2016 21
What’s up on Capitol Hill?
The Commission speaks
Continued
5. Lack of basic knowledge about
personal finance
6. Problems with Social Security,
including unsustainable finances,
an outdated program structure and
failure to provide adequate benefits
for some retirees
We also recommend several additional
actions, including the creation of
a Retirement Security Clearinghouse
to help Americans consolidate their
retirement savings, steps to limit
over-exposure to company stock, and
modest adjustments to retirement tax
expenditures.
Recommendations
Taken together, the Commission’s
recommendations aim to establish
a better savings culture and renew the
promise of an adequate retirement —
across the income spectrum — for current
and future generations of Americans.
Establish a nationwide minimum
coverage standard to expand access
to workplace retirement savings.
Too many Americans, especially those
who work for small businesses, lack
access to a payroll-deduction workplace
retirement savings plan.
Other workers have access to retirement
savings plans but do not contribute.
We also propose an alternative to nondiscrimination testing, along with new
tax incentives to encourage employers to
adopt automatic enrollment and escalate
their employees’ contributions over time.
Once these reforms are in place, we
recommend establishing a nationwide
minimum-coverage standard to pre-empt
the patchwork of state-by-state regulation
that is already developing.
A variety of additional reforms could
support greater access to retirement
savings plans and improve the experience
of plan participants. We would encourage
lower-earning individuals to save for
retirement by improving the existing
Saver’s Credit for younger workers and by
exempting some retirement savings from
asset tests to qualify individuals for certain
federal and state assistance programs.
22
Old Job 401k
Simplified 401k
NewJob 401k
3.Reduce the risk of outliving
savings
While Social Security provides a form of
lifetime income, Social Security benefits
alone will not be adequate to meet all
income needs for most retirees. For those
who have accumulated sufficient savings,
other lifetime-income solutions offer the
security of additional, regular retirement
income that they cannot outlive.
1.Improve access to workplace
retirement savings plans
We recommend the creation of a new,
streamlined option called Retirement
Security Plans that would allow small
employers to transfer most responsibilities
for operating a retirement savings plan to
a third-party expert, while still maintaining
strong employee protections. We would
also enhance the existing myRA program
to provide a base of coverage for those
workers, such as part-time, seasonal and
low-earning workers, who are least likely
to be offered a retirement savings plan.
Simplify the process to move assets
from plan to plan.
We recommend that plan sponsors
2.Promote personal savings for
short-term needs and preserve integrate sophisticated, but easy-to-use,
retirement savings for older age lifetime-income features within retirement
Americans need to increase their
personal savings so that they are better
positioned to handle emergencies and
major purchases. Insufficient short-term
savings can lead workers to draw down
their retirement accounts, incurring taxes
and (often) penalties. This “leakage”
of retirement savings — while it might
address an immediate financial squeeze
— jeopardizes many Americans’ long-term
retirement security. To address this issue,
we recommend clearing barriers that
discourage employers from automatically
enrolling their employees in multiple
savings accounts, one for short-term
needs and another for retirement.
Some leakage of retirement savings
results from system complexity and
poorly designed regulation. We propose
to ease the process for transferring
savings from plan to plan, because
many pre-retirement withdrawals occur
upon job separation. In addition, earlywithdrawal rules and penalties for
workplace plans and IRAs should be
harmonized by raising IRA standards.
savings plans. Plan sponsors could
establish a default lifetime-income option
or offer an active-choice framework in
which participants are asked to choose
options from a customized menu.
In-plan tools could also help participants
make an informed decision about when
to claim Social Security benefits and
then to schedule withdrawals from their
retirement plan to facilitate later claiming
of Social Security benefits. We believe
employers need safe harbors to limit their
legal risk as they offer these features
and attempt to educate workers about
longevity risk and lifetime income.
Additionally, we recommend clearing
barriers to offering a wider array of
choices for lifetime income in both
retirement savings and pension plans.
Workers with defined benefit pensions
should be able to receive part of their
benefit as a lump sum and the rest as
monthly income for life, rather than the
all-or-nothing choice most have today.
To encourage participants to work
longer and provide more consistent
work incentives, we recommend allowing
employer-sponsored retirement plans
to align plan retirement ages with
Social Security.
$
$
$
Encourage plan sponsors to
integrate easy-to-use, sophisticated
lifetime-income features.
5.Improve financial capability
among all Americans
Financial capability — defined as having
the knowledge, ability and opportunity
to manage one’s own finances — is lacking
among too many Americans.3,4 This is
a troubling fact at a time when
the nation’s retirement system has
transitioned toward greater individual
control and responsibility.
Exposure to financial knowledge and
planning should begin early in life,
with schools, communities, employers,
4.Facilitate the use of home equity and federal and state governments all
working to foster a culture of savings
for retirement consumption
and to position individuals to make
Housing is an important form of savings.
prudent financial choices. We support
Americans own more than $12.5 trillion
a variety of approaches, including
in home equity — a sum that rivals the
implementing recommendations from the
$14 trillion that Americans hold in
President’s Advisory Council on Financial
1,2
retirement savings. For individuals or
Capability, providing improved personal
couples who lack substantial savings
financial education through K-12 and
in a retirement plan but who own their
higher-education curricula, and better
residence, homeownership can be a major
communicating the consequences of
source of retirement security. A variety
claiming Social Security early.
of mechanisms exist for tapping home
equity to fund regular consumption needs
Better communicate the
in retirement; for example, homeowners
can downsize, use a reverse mortgage,
advantages of claiming social
or sell their home and rent instead.
security benefits later.
Federal and state tax policy, however,
actually subsidizes the use of home equity
for pre-retirement consumption, leaving
many retired homeowners burdened
with debt and with less equity to support
retirement security. We recommend ending
these subsidies by eliminating tax benefits
for borrowing that reduces home equity.
We also propose to strengthen programs
that support and advise consumers
on reverse mortgages, which can be
a good option for some older Americans.
Establishing a low-dollar, reversemortgage option would facilitate smaller
loans while reducing fees for borrowers
and risk for taxpayers.
$ $
$
6.Strengthen Social Security’s
finances and modernize the
program
Social Security provides the income
foundation for many older Americans,
but to maintain that legacy, prompt
adjustments to the program are needed.
For decades, the program’s trustees have
affirmed the need for changes, noting
that Social Security faces significant
financial challenges.
We recommend adjustments to Social
Security’s tax and benefit levels to
1) reflect changing demographics;
2) better target benefits on those
who are most vulnerable in old age,
including surviving spouses and workers
in low-earning occupations; 3) preserve
reasonable intra- and inter-generational
equity; and 4) more fairly reward work.
Financial capability — defined as
having the knowledge, ability and
opportunity to manage one’s own
finances — is lacking among too
many Americans. This is a troubling
fact at a time when the nation’s
retirement system has transitioned
toward greater individual control
and responsibility.
Benefits increase
Age
62
Age
67
Age
70
Conclusion
Our recommendations aim to bring
peace of mind to Americans preparing
for retirement by assuring the financial
sustainability of the Social Security
program and by significantly expanding
access to workplace retirement savings
plans. Together, these changes would
help many more workers take charge of
their financial futures.
1 Source: Board of Governors of the Federal Reserve System, Financial Accounts of the United States: Fourth Quarter 2015
2 Source: Investment Company Institute, The U.S. Retirement Market, Fourth Quarter 2015
3 Source: Investor Education Foundation, 2012 National Financial Capability Study
4 Source: Center for Social Development, “Financial Capability: What is It, and How Can It be Created?”
The Bipartisan Policy Center (BPC) is a non-profit organization that combines the best ideas from both parties to promote health, security, and opportunity for all
Americans. BPC drives principled and politically viable policy solutions through the power of rigorous analysis, painstaking negotiation, and aggressive advocacy.
This content is a product of BPC’s Commission on Retirement Security and Personal Savings. The findings expressed herein are those solely of the commission,
though no member may be satisfied with every formulation in the report. The findings and recommendations expressed herein do not necessarily represent the
views or opinions of the BPC’s founders or its board of directors.
DC Matters Fall/Winter 2016 23
An academic angle
Engaging participants
What we know
Financial literacy in an auto
features world
Plan sponsors know all too well that
individuals in retirement systems face
difficult decisions. Deciding how much
to save and how to allocate assets is
hard enough, not to mention tackling
distribution decisions and managing
longevity risk. Layer on top of that the
“aging brain,” and it is not surprising
that people are overwhelmed.
Financial decisions associated with
retirement can be emotionally taxing on
individuals. This was abundantly clear
to my coauthors and me during a series
of focus groups we held.1 As a warmup exercise, we asked our focus group
participants to look at several pictures
and pick one image that best captured
how they felt when they thought of
retirement planning. The pictures ranged
from beautiful sunsets on a beach to
more alarming pictures similar to the one
below. Notably, this type of disturbing
image was the one selected most often
from all the options.
Examining the image that was chosen,
participants clearly felt stressed about
retirement decisions. Participants remarked
that the picture captured their feelings
of being out of control and exemplified
the weighty consequences of making a
mistake. Feeling overwhelmed like this can
lead individuals to rely on simple heuristics
or to succumb to behavioral biases when
making financial decisions. This often will
not result in an optimal outcome.
It is a difficult state of affairs where
individuals face hard, emotionally
charged financial choices that they
must consider, often without the
necessary financial literacy skills to
effectively address them.
Julie R. Agnew, Ph.D.
Associate Professor of
Finance and Economics,
Raymond A. Mason
School of Business
Dr. Julie Agnew is the Class of 2018
Associate Professor of Finance and
Economics at the Raymond A. Mason School
of Business at the College of William & Mary.
Her research and consulting activities focus
on behavioral finance and its relationship to
financial decisions made by individuals
in their retirement plans. Dr. Agnew serves
on the Advisory Board of the Wharton
School’s Pension Research Council,
is a Wall Street Journal Expert Panelist
and is a Research Associate for the Center
for Retirement Research at Boston College.
Dr. Agnew frequently presents her research
all over the world and has testified as
an invited expert witness in front of the
Senate’s Committee on Health, Education,
Labor and Pensions. Her work has been
published in journals including the American
Economic Review, the Journal of Financial
and Quantitative Analysis, and Management
Science (forthcoming). Prior to pursuing her
doctorate, Dr. Agnew worked as an analyst
in investment banking for Salomon Brothers
and as an equity research associate for
Vector Securities International. A former
Fulbright Scholar to Singapore, Dr. Agnew
co-authored a book examining strategic
business opportunities in Indonesia, Singapore
and Malaysia. Dr. Agnew graduated magna
cum laude from the College of William and
Mary with a BA in economics and earned a PhD
in finance from Boston College.
James W. Porter/Corbis/Getty Images
24
Bertlmann/E+/Getty Images
On top of the emotion, we know that
many individuals around the world
lack sufficient working knowledge of
financial concepts2 and, unfortunately,
the outcomes of financial education
efforts to correct this are mixed at best.3
Taken all together, it leaves us facing
a difficult state of affairs where individuals
face hard, emotionally charged financial
choices that they must consider, often
without the necessary financial literacy
skills to effectively address them.
Why does financial literacy matter
in an auto feature world?
Given these facts, I’m often asked: Why
are we still talking about financial literacy
and not simply relying on automatic
features to guide participants? I believe
this commonly asked question is flawed
in how it is framed. Offering automatic
features and building financial literacy
is not an “either/or” choice. In fact, I am
a strong proponent of automatic features,
but I assert that new research findings
suggest that the presence of defaults
provides a compelling reason in itself
for building financial literacy among
individuals — not a reason to abandon
educational efforts.
While defaults help individuals start to
save and allocate correctly, we also
need to consider the possible long-term
consequences of participants being placed
into an investment option that they do
not understand. This concern is supported
by associations found in the literature
between individuals with low financial
literacy and their likelihood of default.
While defaults help individuals start
to save and allocate correctly,
we also need to consider the
possible long-term consequences
of participants being placed into
an investment option that they do
not understand.
For example, several years ago, Lisa
Szykman and I worked on an experimental
study in which we asked participants
to choose an asset allocation for a
hypothetical portfolio. The participants
could choose among many funds or
accept the default. We found that 20%
of those with low financial literacy
defaulted compared to only 2% of those
with above-average financial literacy.4
DC Matters Fall/Winter 2016 25
An academic angle
Engaging participants
Continued
Low financial literacy leads
to higher default rates
20%
of participants with belowaverage financial literacy
defaulted
2%
of participants with aboveaverage financial literacy
defaulted
Source: Agnew and Szykman (2005)
Why literacy should also include
plan knowledge
But financial literacy should not be
measured based solely on knowledge of
broad financial concepts; knowledge of
specifics related to common investment
vehicles and financial offerings, like
features offered in retirement plans, are
important, too. Highlighting this is a 2015
study by Jeff Brown, Anne Farrell and
Scott Weisbenner.5 They examined pension
choices of public university employees in
the state of Illinois. In this study, employees
were defaulted into a traditional defined
benefit plan if they did not make a decision
about their plan choice within the first six
months. The researchers found that those
without a basic awareness of their plan
choices were more likely to default than
those who had some knowledge.
they are defaulted into or even the ones
More evidence that participants
they actively chose.
may not understand their plans’
features or even their own decisions
Long-term regret is a concern
While it is easy to understand why
individuals defaulted into their allocations for defaulters
may not understand their investments,
I have also found in my joint research
evidence of people’s misunderstanding of
their own active choices. In a study of US
401(k) investors that combined survey
results with administrative data, we found
many people were not aware of their own
specific 401(k) allocations even when
they made the choice. In fact, we found
some voluntarily enrolled participants
who were 100% invested in target date
funds still reported that they had never
heard of target date funds, let alone
invested in them.1
Similarly, a 2013 Australian study
I completed with Susan Thorp and Hazel
Bateman found only 40% of those
we surveyed knew that the balanced
investment option was not exclusively
invested in safe assets.8 This is a concern
because the balanced investment
option tends to be the default option in
Australian retirement plans. Clearly, this
lack of understanding could lead to longterm dissatisfaction for those who are
invested in this option and lose money.
Thus, plan education can be valuable
and it should never be assumed that
individuals understand the investments
Participants invested in target
date funds are often unaware of
their own allocations
What researchers found of those in the
defined benefit plan was that the
percentage that would strongly desire
a different retirement plan was much
higher for those who defaulted into that
plan than for those who actively chose
that plan. Furthermore, the desire to
change for the defaulters was much
higher than it was for participants who
made other active plan choices.
True
False
Don’t know
50
40%
30
28%
32%
10
%
• Correct allocation reported
45
• Incorrect allocation reported
25
• Never heard of target date funds
20
• Not sure of allocation
10
Source: Agnew, Szykman, Utkus and Young (2013)
26
For example, the study of plan choice
discussed earlier asked participants
this question: “If you could go back in
time and re-do your original pension
choice, which plan would you choose?”
Participants also rated the strength of
their desire to choose a different plan.
Only 40% of participants
surveyed realized they could lose
money in a balanced fund
These findings are supported by
other research suggesting that when
participants understand their plan
features, they react appropriately to their
incentives.6 However, while individuals
make sensible decisions based on what
they believe is true, research also shows
that their beliefs are not always accurate.7
Our research found some voluntarily
enrolled participants who were
100% invested in target date funds
still reported that they had never
heard of target date funds.
With the emerging evidence that people
do not always understand their plan
choices and that low financial literacy
is often linked to those who default, plan
sponsors should consider the possible
long-run effects of defaulting on the
satisfaction levels of these participants.
This is an area of research that needs
more attention, but preliminary work
suggests it should be a priority.
True or false: A ‘balanced’ investment
option means that it is invested exclusively
in safe assets such as savings accounts,
cash management accounts and term
deposits.
Source: Agnew, Bateman and Thorp (2013)
Visit drjulieagnew.com to read
more of Dr. Agnew’s research
In a large-scale experiment, we found
lower financial literacy related to
greater feelings of information
overload, and those individuals were
30% less likely to feel confident
about their choice.
While more research is needed to confirm
these findings, we should also keep in
mind that those with lower financial
literacy often report greater feelings of
information overload. These feelings
could be one reason that some individuals
avoid making active choices and default.
In an experiment about annuity choice,
my co-authors and I found that the high
levels of information overload participants
experienced related to a reported lack of
confidence at the time the participants
made their investment decisions.9
Furthermore, those who reported high
information overload ultimately reported
less satisfaction at the end of the
experiment once the financial outcomes
were known, even when controlling for
these outcomes.
Therefore, more research is needed to
determine whether improvements in
financial literacy can reduce feelings of
information overload when individuals
make choices. Could these efforts help
individuals understand their choices
better, including their default options, and
improve their satisfaction in the future?
Those who reported high
information overload ultimately
reported less satisfaction.
Bottom line
Even in an auto features world, financial
literacy remains important. Plan
sponsors should consider the long-term
consequences of disengaged and/or
uninformed participants. The possibility
of future regret and dissatisfaction
exists even in a plan with well-designed
defaults if participants at the onset do not
understand their choices.
Lessons from research
Lesson 1
Takeaway 1
– Consider the long-term consequences
of unengaged participants.
– Those with low financial literacy
or who experience information
problems may be more susceptible
to behavioral biases.
– Participants must understand their
choices, or later on they may regret
their action (or inaction).
– Effective communication is critically
needed as a result.
Lesson 2
Takeaway 2
– Too much information can cause
participants to disengage from
decision-making and be less satisfied
in the future.
– Focus on the quality of the
communication.
– Keep the message simple to
understand.
Lesson 3
Takeaway 3
– Do not assume participants
understand their plan features or
general finance.
– Tailor your communications to your
participant base and their knowledge.
– Test your communication material
for understanding.
– Use survey assessments and focus
groups to understand what your
participants know and do not know.
Lesson 4
Takeaway 4
– Understanding how groups view
communications differently should
inform design. For example, younger
people may react differently to
communications from older people.
– Communications should be tailored
to specific groups.
– A “one-size-fits-all” approach will
not suffice.
1 Source: Agnew, Julie, Lisa Szykman, Stephen Utkus and Jean Young (2013), “Target Date Funds: Survey and Administrative Evidence,” Working paper
2 Source: Lusardi, Annamaria and Olivia Mitchell (2011), “Financial Literacy Around the World: An Overview,” Journal of Pension Economics and Finance,
10: 497–508
3 Source: Fernandes, Daniel, John G. Lynch, Jr., and Richard G. Netemeyer (2014), “Financial Literacy, Financial Education, and Downstream Financial
Behaviors,” Management Science, 60 (8), 1861–1883
4 Source: Agnew, Julie and Lisa Szykman (2005), “Asset Allocation and Information Overload: The Influence of Information Display, Asset Choice and Investor
Experience,” Journal of Behavioral Finance, 2005, 6 (2), 57–70
5 Source: Brown, Jeffrey, Anne M. Farrell and Scott J. Weisbenner (2015), “Decision-Making Approaches and the Propensity to Default: Evidence and
Implications,” NBER Working Paper
6 Source: Chan, Sewin and, Anne Huff Stevens (2008), “What You Don’t Know Can’t Help You: Pension Knowledge and Retirement Decision-making,” The Review
of Economics and Statistics, 90, 253–66
7 Source: Brown, Jeffrey and Scott J. Weisbenner (2014), “Why Do Individuals Choose Defined Contribution Plans? Evidence from Participants in a Large Public
Plan,” Journal of Public Economics, 116, 35–46
8 Source: Agnew, Julie, Hazel Bateman, and Susan Thorp (2013), “Superannuation Knowledge and Plan Behaviour,” JASSA: The Finsia Journal of Applied
Finance, 1, 45–50
9 Source: Agnew, Julie and Lisa Szykman (2011), “Annuities, Financial Literacy and Information Overload,” in Financial Literacy: Implications for Retirement
Security and the Financial Marketplace (eds.) Olivia S. Mitchell and Annamaria Lusardi, 260–297, Oxford, UK: Oxford University Press
DC Matters Fall/Winter 2016 27
DC Matters Fall/Winter 2016 28
Nuts & bolts
Fiduciary outsourcing
So you hired an ERISA 3(38)
fiduciary … now what?
The 2008 and 2009 financial crisis forced many plan
sponsors to streamline and, in many cases, reduce
the headcount in their finance and human resources
departments. These departments are usually the most
involved in the ongoing management and oversight of
employee retirement plans. While the economy has
improved, we have not yet seen plan sponsors add back
these positions to a great extent. Further, human resources
and finance professionals have had other things, such as
the Patient Protection and Affordable Care Act of 2010,
occupying their time.
Investment
selection
Investment
removal
Hiring a 3(38)
investment manager
can help off load some
of the responsibility,
but not all.
) in
er
3(
38
v e s t m e nt m a n
Thierry Dosogne/Iconica/Getty Images
ag
Investment
replacement
Scott Matheson joined CAPTRUST in 2007
and is currently a Senior Director and Practice
Leader, responsible for leading the development
of defined contribution services. Prior to
joining the firm, he served as an institutional
sales person on a fixed income trading desk
for Citigroup’s Global Investment Bank in
New York, New York. Mr. Matheson has worked
in the industry since 1999, earned a BS in
Business Administration degree in finance from
Appalachian State University and an MBA from
the University of North Carolina at Chapel Hill.
Organizations are doing more with the
same amount of people, including the
oversight and management of their
retirement plans. Faced with financial
market volatility, rising interest rates,
regulatory scrutiny and rising plan-related
litigation activity, plan sponsors are
looking for help managing their plans.
In some cases, they are turning to their
plan advisors, asking them to do more
on their behalf. The result is an increase
in plan sponsors engaging advisors in
a discretionary capacity to select and
monitor plan investments.
Faced with financial market
volatility, rising interest rates,
regulatory scrutiny and rising
plan-related litigation activity,
plan sponsors are looking for help
managing their plans.
Investment
monitoring
Plan sponsors
looking
for help
Scott Matheson, CFA, CPA
Senior Director,
Defined Contribution
Practice Leader,
Consulting Research Group
CAPTRUST
Decoding the numbers
When creating a custom asset allocation,
engaging a professional to provide
investment advice has been common for
some time among plans subject to the
Employee Retirement Income Security
Act of 1974 (ERISA). These advisory
arrangements are referenced and
contracted as ERISA 3(21) engagements,
or, as some call them, co-fiduciary
arrangements. This naming convention
comes from the section numbers within
ERISA itself; Section 3 of ERISA provides
term definitions. The 21st item in the list
defines a fiduciary.
DC Matters Fall/Winter 2016 29
Nuts & bolts
Fiduciary outsourcing
Continued
When sponsors engage investment
advisors as 3(21) fiduciaries, they hire
them to provide investment advice.
These advisors are responsible for the
analysis, tools and advice they provide.
Although plan sponsors may rely on
the advice of their 3(21) investment
advisors, they’re still responsible for any
decisions made.
A more recent trend for DC plan
sponsors is to engage advisors for
discretionary investment management.
Doing this requires the investment
advisor to contract as an ERISA 3(38)
fiduciary. As you may have guessed,
this refers to ERISA Section 3’s 38th
definition. Note that ERISA 3(38) does
not define “investment advisors with
discretion,” nor does it say “here’s a way
to transfer more risk to your investment
advisor.” Rather, it defines investment
managers as distinct fiduciaries
contracted with full discretionary
authority over plan investments and
plan investment decisions.
In a DC plan, this means the investment
manager may select, monitor, remove,
and replace investment options offered
to plan participants. An appropriately
contracted and executed 3(38)
arrangement frees the plan sponsor
from the time involved in selecting and
monitoring plan investment options
and the liability associated with these
decisions. As explained in ERISA 405(d),
“The plan sponsor and/or trustees of the
plan are not liable for acts or omissions
of the 3(38) investment manager,
and are under no obligation to invest
or otherwise manage any asset of the
plan which is subject to the management
of that investment manager.” The fact
that ERISA outlines this protection
makes engaging a 3(38) investment
manager an appealing prospect for many
plan sponsors.
So what’s left to do?
An ERISA 3(38) arrangement represents
the highest level of investment liability
transfer possible under ERISA, but
that doesn’t mean a plan sponsor
has eliminated all investment-related
fiduciary duties. As attorney Michael
Abbott, an employee benefits partner at
Gardere Wynne Sewell LLP, reminds us,
“ERISA 3(21) covers plan fiduciaries —
including plan sponsors — to the extent
30
such fiduciaries have any discretionary
authority or discretionary responsibility
relating to plan management or
administration.”
But hiring a 3(38) investment manager
is not a panacea. Abbott continues:
“While engaging a 3(38) lessens your
investment-related responsibilities and
risk, it doesn’t absolve you completely
or allow you to abdicate all investment
fiduciary responsibilities.” The process
of selecting and engaging a 3(38) itself
is a fiduciary responsibility.
An ERISA 3(38) arrangement
represents the highest level of
investment liability transfer possible
under ERISA, but that doesn’t mean
a plan sponsor has eliminated all
investment-related fiduciary duties.
Engaging a 3(38) investment manager
transfers the responsibility and risk
associated with the selection and
monitoring of the plan’s investment
options. It is critical, however, that
plan sponsors realize that even with
an appropriately structured 3(38)
arrangement, such sponsors “still have
the responsibility to monitor their 3(38)
and be aware of the ERISA-related liability
Visit captrustadvisors.com
to read more of Scott’s
commentary
Feifei Cui-Paoluzzo/Moment Open/Getty Images
associated with hiring, monitoring and,
if needed, replacing them,” according
to Abbott.
An analogy may help clarify roles. Let’s
say you bought a new home and are
trying to decide how best to move your
belongings. Your cheapest option would
be to do the move yourself. In doing so,
you perform all the work. If anything
breaks during the move, there is no one
to blame but yourself. You have retained
all of the move’s liability.
Another option would be to pay someone
to help you load the moving truck.
In this scenario, that worker would be
responsible for his role in the move.
If he dropped a box of your fine china,
he would be on the hook for what he
damaged. Meanwhile, assuming he
didn’t poorly pack the china, if the china
cracked as you drove the rental truck
across town, you would own the liability.
Driving the truck was outside the scope of
the worker’s role.
Hiring a 3(38) investment manager is
like outsourcing your move. While you
have outsourced the work and liability,
you cannot step away from the process.
You must still monitor the investment
manager to make sure it is fulfilling its
contractual obligations.
Finally, you could completely outsource
the move by hiring a full-service moving
company. Your mover’s contract includes
an insurance policy to protect your items
and removes your liability for broken
items. Yet, even in this scenario, you will
want to be on site, ensuring the movers
do what you instructed them to do,
placing boxes in the correct rooms and
furniture against the right walls.
Building a monitoring framework
When plan sponsors hire a 3(38)
investment manager, sponsors often
ask how they should monitor the
manager. We have a unique perspective
in answering this question because,
in the course of business, we evaluate
and monitor the investment managers
whose products are present in our clients’
investment lineups.
DC Matters Fall/Winter 2016 31
Nuts & bolts
For more information, visit
invesco.com/dc
Fiduciary outsourcing
Continued
Questions plan sponsors should consider when creating a framework to monitor a 3(38) investment manager:
Fulfillment of duties
– Has the investment manager acknowledged in writing that it is acting as a plan fiduciary?
– Is the investment manager adhering to the plan’s investment policy statement (IPS)?
– Is the investment manager selecting plan investment options consistent with the plan’s IPS?
– Is the investment manager monitoring (and replacing, if needed) investment options consistent
with the plan’s IPS?
– Does the investment manager report performance compared with each strategy’s objective,
appropriate benchmarks, and peer groups?
– Does the investment manager provide adequate rationale and documentation for investment
changes made?
– Does the investment manager work with your provider to execute fund changes on your behalf?
– We also suggest that you periodically ask your investment manager questions about its
organization, perhaps annually, to ensure the firm you hired has not changed in a way that could
impact its ability to fulfill its duties.
Organizational due
diligence
– Have there been any organizational changes to the firm that may impact plan management?
– Has there been a change to the firm’s status under the Investment Advisers Act of 1940?
– Has the firm been the subject of an investigation by any regulatory or government agency?
– Has the firm been routinely examined by regulators or independent auditors?
– Has the firm been the subject of any litigation (settled, pending, or threatened)?
– Have there been any material changes to the firm’s fidelity bond or errors and omissions insurance?
– Have there been any changes to the firm’s written fiduciary status related to the plan?
– Have there been any changes to the firm’s roles and responsibilities related to the plan?
– Has the firm disclosed all sources of compensation?
– Does the firm have any conflicts of interest with any of the plan’s investment managers or
other providers?
– What are the investment manager’s 3(38) assets and number of plans under advisement?
Unless staffing trends reverse,
the demands on human resources
and finance departments lessen,
or the complexity of managing
retirement plans decreases, demand
for defined contribution 3(38)
investment manager services will
continue to grow.
Putting a bow on it
demand for defined contribution 3(38)
investment manager services will continue
A 3(38) arrangement is not a means
to grow. If you are among the growing
to absolve all your investment
number of plan sponsors who find
fiduciary responsibilities. Any move,
the structure of a 3(38) arrangement
whether it is across town or to a new
optimal for your plan’s management,
fiduciary framework, requires a clear
establishing a framework for evaluation
understanding of roles and responsibilities
is an important step to fulfilling the
before making an informed decision.
new, though lessened, responsibilities
introduced by this arrangement.
Unless staffing trends reverse, the
demands on human resources and finance
departments lessen, or the complexity
of managing retirement plans decreases,
Important information
This article is intended to be informational only. CAPTRUST does not render legal, accounting, or tax advice. Please consult the appropriate legal,
accounting, or tax advisor if you require such advice. The opinions expressed in this report are subject to change without notice. This material
has been prepared or is distributed solely for informational purposes and is not a solicitation or an offer to buy any security or instrument or to
participate in any trading strategy. The information and statistics in this report are from sources believed to be reliable but are not warranted by
CAPTRUST Financial Advisors to be accurate or complete.
32
About us
Invesco
As one of the world’s
leading independent global
investment management
firms, we are uniquely
positioned to help plan
sponsors achieve their
investment objectives.
Invesco offers a wide range
of investment capabilities
across equity, fixed income
and alternative asset classes,
delivered through a diverse
set of investment vehicles.
By the numbers
Providing investment solutions to DC plan sponsors
36 years
Global assets under management
$779.6 billion
DC assets under management
$102.5 billion
Alternative investment strategies under management
$116.0 billion
Fixed income investment strategies under management
$267.4 billion
Equity investment strategies under management
$348.8 billion
Balanced investment strategies under management
$47.4 billion
Employees worldwide
>6,500
Cities worldwide where Invesco has on-the-ground presence
27
Countries where Invesco serves clients
120
Source: Invesco Ltd. Client-related data, investment professional, employee data and AUM are as of June 30, 2016, and include all assets under advisement,
distributed and overseen by Invesco. Invesco Distributors, Inc. is the US distributor for Invesco Ltd.’s retail products. The entities listed are each indirect, wholly
owned subsidiaries of Invesco Ltd., except Invesco Great Wall in Shenzhen, which is a joint venture between Invesco and Great Wall Securities, and the Huaneng
Invesco WLR Investment Consulting Company Ltd. in Beijing, which is a joint venture between Huaneng Capital Services and Invesco WLR Limited. Please consult
your Invesco representative for more information.
Not all products are available to all investors. Please consult your Invesco representative for more information.
Invesco Advisers, Inc. is an investment adviser; it provides investment advisory services to individual and institutional clients and does not sell securities.
Institutional Separate Accounts and Separately Managed Accounts are offered by Invesco Advisers, Inc. and other affiliated investment advisers, which provide
investment advisory services and do not sell securities. Invesco Distributors, Inc. is the U.S. distributor for Invesco Ltd.’s retail mutual funds, exchange-traded
funds and institutional money market funds. Both are indirect, wholly owned subsidiaries of Invesco Ltd.
DC Matters Fall/Winter 2016 33
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About risk
Commodities may subject an investor to greater volatility than traditional securities such as stocks and bonds and can fluctuate significantly
based on weather, political, tax, and other regulatory and market developments.
The risks of investing in securities of foreign issuers, including emerging market issuers, can include fluctuations in foreign currencies, political
and economic instability, and foreign taxation issues.
Diversification does not guarantee profit or eliminate the risk of loss
FOR DEFINED CONTRIBUTION PLAN SPONSOR USE ONLY — NOT FOR USE WITH THE PUBLIC
The opinions expressed are those of the authors, are based on current market conditions and are subject to change without notice. These opinions
may differ from those of other Invesco investment professionals. The comments should not be construed as recommendations, but as an illustration
of broader themes. Forward-looking statements are not guarantees of future results. They involve risks, uncertainties and assumptions, there can
be no assurance that actual results will not differ materially from expectations. Past performance is no guarantee of future results.
This magazine is not intended to be legal or tax advice or to offer a comprehensive resource for tax-qualified retirement plans. The tax information
contained herein is general and is not exhaustive by nature. Federal and state tax laws are complex and constantly changing. You should always consult
your own legal or tax professional for information concerning your individual situation. The information presented is based on current interpretation
of pending retirement legislation and regulations. State laws may differ. Always consult your own legal or tax professional for information concerning
your individual situation. All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed.
This magazine is for informational purposes only and is not to be construed as an offer to buy or sell any financial instruments and should not be relied
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Note: For more information on any of the topics discussed please contact your Invesco Representative.
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