Jun 14, 2012 --- Plan sponsors should not rely on replacement rate
studies when differentiating plan providers, a research paper contends. ---
Plan sponsors are increasingly
requesting replacement rate studies where each provider conducts an analysis to
determine the potential impact or improvement of the given investment strategy
on participants. In other words, they are using it to determine the “retirement
success” of the participants if they use that provider’s or consultant’s
product or solution, according to the research paper “Inaccurate Precision: The
Danger of Replacement Rate Calculations.”
In many cases, the plan sponsor will
supply a potential vendor with average (or median) plan demographics and ask
the vendor for the expected replacement ratio at retirement for the average (or
median) plan participant, explained David Blanchett, research consultant for
Morningstar Investment Management and author of the paper. This approach can be
dangerous because it does not take into consideration variables like outside
assets and spouses, therefore making it nearly impossible to meaningfully
compare the expected replacement ratio provided by two different vendors.
“You have a very incomplete picture
of [plan participants’] retirement readiness,” Blanchett told PLANADVISER.
The paper explores the important
differences in how one defines the expected replacement ratio, as well as
explains how replacement rate estimates can vary based on different assumptions
and provide varying levels of insight. Blanchett used assumptions including
savings rate, inflation, market forecasts and retirement age.