Defined contribution (DC) plan investment structures are one lever that plan sponsors can use to improve retirement outcomes for plan participants. The investment findings in Towers Watson's 2014 Defined Contribution Survey show that plan sponsors are beginning to rethink how they approach DC plan investment structures. The results show that plan sponsors are actively considering ways to enhance DC plan structures, with a clear recognition that more sophisticated approaches to investment and governance structures help create better outcomes through the investment lever.

Plan Sponsors Raising the Bar

The key investment findings reveal that plan sponsors are beginning to embrace more complex strategies with a focus on participant and plan needs. Prominent areas such as custom target-date funds (TDFs) and multi-manager white-label options create opportunities to leverage portfolio efficiency and provide diversification while simplifying the option structure.

In order to implement effectively, there has been a trend to engage third-party partners to expand the governance capacity of committees (outsourcing).

But there is more to be done, in particular, in the assessment of TDFs: Plan sponsors remain anchored to investment metrics as opposed to more holistic metrics such as successful retirement outcomes or income replacement ratios.

Key investment themes and survey findings

Investment option diversification. DC plan structures have been historically anchored to lineups that are constructed with many single, stand-alone active funds, each with a style and capitalization bias. Plan sponsors are recognizing that these structures are not the most efficient approach. Key influences include:

  • Participant use of single, stand-alone active options has been inefficient, and many of these funds have produced subpar results.
  • A portfolio approach to active management most efficiently captures the full market opportunity set and combines complementary investment strategies.
  • Multi-manager/white-label options achieve improved portfolio efficiency and diversification; promote fewer, diversified options; simplify choice for participants; maximize buying power; and may lead to better outcomes.
Figure 1. Active management efficiency

Figure 1. Active management efficiency

Value in custom TDFs. Plan sponsors see value in thinking comprehensively about the construction of TDF offerings through a custom TDF series. Many plan sponsors recognize the importance and complexity of the TDF as an asset allocation offering and, in most cases, a default investment, and want to have a say in its construct. Key influences include:

  • A custom TDF series provides the greatest opportunity for plan sponsors to offer a solution best suited to their participants' needs, and the ability to manage around risks and outcomes specific to their plans' objectives.
  • Tailoring the TDF series enables plan sponsors to consider demographics, the behavior profile of their participants and their investment beliefs, and to factor in other benefits offered. Custom TDFs unbundle the key decision points (glide path, portfolio construction and implementation), giving structural control of the overall design to the plan sponsor.
Figure 2. Views on custom TDFs

Figure 2. Views on custom TDFs

TDF selection driven by investment metrics over outcomes. Plan sponsors may be coming up short in how they evaluate and select TDFs. The vast majority of plan sponsors selecting TDF offerings focus on investment metrics and not bigger-picture measurements such as retirement success rates or income replacement ratios. Investment metrics are important; however, metrics that reflect retirement outcomes represent a more holistic view and should drive evaluation, selection and monitoring of TDFs.

Figure 3. Considerations in selecting TDFs

Figure 3. Considerations in selecting TDFs

Pursuit of DC outsourcing gaining traction. As the primary retirement vehicle, DC plans now require more time, attention and expertise from plan sponsors than ever before. With the elevated complexity in investment approaches and subsequent governance requirements, it's not surprising to see that more than one-third of plan sponsors are either already in an outsourced DC solution, or may be interested in exploring the delegation of all or a portion of their DC plan oversight. As the investment opportunity set becomes increasingly more complex and the stakes get higher for the success of DC plans, it is important for plan sponsors to consider the right governance equation for achieving plan objectives, which may include seeking third-party partnerships.

Figure 4. Outsourcing investment services

Figure 4. Outsourcing investment services
Click to enlarge

Consideration of broadened investment themes. Options for future inclusion in DC plans include the following highlights:

  • Plan sponsors are rethinking how they approach bond investments and expanding the opportunity set.
  • TDFs continue to gain traction, with an emphasis on custom TDFs.
  • Broadening equity exposure to more global mandates (global, international, emerging markets) trumps domestic equity.
  • Inflation-protection offerings (diversified real return, Treasury inflation-protected securities [TIPS] and real estate investment trusts [REITs]) remain on the radar.
  • Lifetime income options will continue to be monitored as the regulatory landscape and offerings evolve.
  • Stable value gains consideration despite some of the market challenges.

Plan sponsors are not considering the addition of company stock.

Figure 5. Types of investments being considered

Figure 5. Types of investments being considered

The Takeaway

Plan sponsors seem to be engaged in reevaluating, rethinking and reframing their approaches to both investments and governance. The results reveal that reviews of all plan facets are being given time and consideration to achieve better outcomes.