Practice Management October 9, 2024

Asset Managers Exploring Fresh Avenues to Bring Alts Into DC Plans

Per Cerulli, asset managers are leveraging CITs and interval funds to try and get into DC plans; an adviser sees alternatives working better via managed accounts than the core lineup.

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Art by Cara Wang
Asset Managers Exploring Fresh Avenues to Bring Alts Into DC Plans

Asset managers, keen for years to bring alternative investments into defined contribution plans, are pushing ahead with relativelynew pathways via collective investment trusts and interval funds, according to Cerulli Associates.

According to Cerulli, about 25% of asset managers are offering alternative investments to DC plans through these investment vehicles; another 17% are considering offering alternatives through CITs in the next two years, and 25% are considering interval funds, which are closed-end, unlisted funds that investors can redeem at set intervals.

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While asset managers often cite the advantages of “democratizing” alternatives to reach everyday investors, Cerulli notes that DC plan fiduciary concerns about the often less-liquid investments remain a challenge and has “hindered adoption.” Alternative investments can also be more expensive, include performance fees and other operational costs, lead researcher Idin Eftekhari, a senior retirement analyst, noted in the report.

“Increasingly, one of the more notable challenges to adoption is plan sponsor inertia,” he wrote.

That was born out in the most recent PLANSPONSOR Defined Contribution Benchmarking Report, which showed that a mere 2.2% of surveyed plan sponsors make alternative investments such as hedge funds and private equity available to participants. PLANSPONSOR is a sister publication of PLANADVISER.

Managing Expectations

Phil Senderowitz, managing director of Strategic Retirement Partners, says alternative investments—which in his mind range from high-yield bonds and real estate to commodity and digital asset funds—certainly may have a place in an individual’s retirement savings portfolio, but the picture grows more complicated when considering them in a core 401(k) plan lineup. Senderowitz sees such investments gaining traction through managed accounts, which are more flexible and targeted for the participant.

“We shy away from using these specialized asset classes in the traditional core lineups,” Senderowitz says. “But what I see happening is that more and more plans are going to be utilizing managed accounts as a default alternative—and more recordkeepers will offer alternatives in the managed account.”

Senderowitz notes that, at SRP, the firm offers alternative investments through adviser-managed accounts, in which advisers can make specific decisions not possible in a more conservative core menu lineup. He, like Cerulli, notes the CIT vehicle for alternatives as a positive development, as it can drive costs down when compared to a ’40 Act fund, which must be registered with the Securities and Exchange Commission.

“CITs can significantly lower the expenses and raise the ability to swap [the investments] in and out,” he says. “You may even have an alt investment available as an option, but carrying zero balance, until you’re ready to start utilizing it.”

Pushing Through

Cerulli found that asset managers are aware that  plan fiduciaries are skeptical of including alternatives in DC plans. About 17% of asset managers reported viewing plan sponsor inertia as a serious challenge, while about 62% view it as somewhat of a challenge to increasing alternatives offerings in DC plans.

Despite the challenges, the Cerulli analysts expect that adoption of alternatives in DC plans will continue to grow, “albeit incrementally.”

From a distribution perspective, the consultancy recommended that “target-date managers—and other DC-focused asset managers seeking to incorporate alternatives into DC-focused products—establish strategic relationships with alternative investment managers that may lack direct access to the DC ecosystem.”

Earlier this month, Apollo Global Management Inc. and its Athene Annuity & Life Co. emphasized during an investor day presentation the opportunity to offer various investment products, including alternative investments, in DC plans. In May, Capital Group, a leading TDF provider and owner of American Funds, formed a strategic partnership with alternative investment firm KKR & Co. Inc. to, in part, bring alternatives to a wider swath of investors.

Despite the potential for more alternatives use, adviser Senderowitz says plan sponsor clients are generally not asking about them, let alone pushing for them.

“A lot of plan sponsors are comfortable with the plain vanilla lineup,” he says. “If [participants] want to go off-roading, they can do it with outside assets.”

Data & Research October 9, 2024

Auto-IRAs May Need Better Emergency Withdrawal Comms

A study by Boston College researchers finds state auto-IRA savers may not know how flexible the accounts can be.

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State individual retirement account programs are designed in part for low- to moderate-income workers to be able to access emergency savings without taxes or penalties.

Part of the reasoning for the setup is that lower-income workers, who may have more pressing liquidity needs, will contribute more to an IRA if they can access funds without penalty. But what if participants do not know or are not interested in using this emergency withdrawal advantage?

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In survey results released Tuesday by the Center for Retirement Research at Boston College, researchers Siyan Liu and Laura Quinby found that only 10% of low- to moderate-income workers said they would, in an emergency, tap an auto-IRA for an unexpected expense of $400 if they could. That low rate, they theorized, could hinder overall retirement savings if participants fear they cannot access the account.

“Since participants are more satisfied when they believe they can access their accounts easily, educating workers about the program’s Roth structure might increase take-up and ultimately lead to more retirement savings,” the authors wrote.

There are currently 20 states with some type of program set to go into effect, with 12 open to employee contributions, according to the latest tracking by the Georgetown University Center for Retirement Initiatives. Those with auto-IRAs are set up as Roth contributions, in part to make emergency withdrawals easier—though the structure also has benefits such as making it easier for people to “dis-enroll” and, of course, brings in present-day taxes for the states offering the programs.

The use and uptake of these auto-IRA programs are still developing. Researchers Liu and Quinby noted that they conducted a survey, rather than using “real-world evidence,” because so few data points exist.

They asked respondents why they would not tap the hypothetical retirement account to cover an emergency expense. Among the options, 57% said they were using the account to save for retirement, 51% said they were worried about taxes and penalties, and 29% said it was too much hassle.

The authors also noted that for workers to see the auto-IRAs as serving the “secondary purpose as precautionary savings,” the communication and framing may matter. But, as they found, only to a certain extent.

Two Paths

To get a sense of how the hypothetical IRA accounts might be used, the pair commissioned a survey by NORC at the University of Chicago of 3,213 respondents with income less than $85,000, splitting them into two groups.

One group was told that, if a member withdrew $400 from their hypothetical account, they could incur taxes and penalties. This language, according to the researchers, is often front-loaded in several state auto-IRA programs. Even if the descriptions go on to note that participants can access their contributions tax-free, the setup could “lead them to overestimate the cost of withdrawing funds in an emergency and nudge them toward other, more costly coping strategies such as taking on high interest-rate debt,” the authors wrote.

The second group, in contrast, was given the same scenario, but without any language regarding penalties. Instead, the participants were told they could go online or call someone to access their savings at any time. A few state auto-IRA programs use this language, the researchers noted.

The researchers then asked both groups if they would use the accounts as “precautionary savings,” with similar results. Among the “taxes and penalties” group, 8% said they would use the accounts that way, not far off the “easy access” group’s 11%.

There was somewhat more heartening news when respondents were asked if an auto-IRA would improve their financial well-being. In this case, 48% of the “taxes and penalties” group said yes, compared with 60% of the “easy access” group.

“Describing auto-IRAs as easily accessible on program websites is probably not enough to change withdrawal behavior and divert participants from familiar forms of borrowing,” the authors concluded. “Nevertheless, compared to an alternative framing that cautions of potential tax consequences from withdrawals, the easy-access framing does improve workers’ enthusiasm for the program.”

Access First

Meanwhile, emergency savings programs may slowly start entering the private defined contribution plan space. The SECURE 2.0 Act of 2022 permits sponsors to create emergency savings accounts connected to retirement plans, with the balance permitted to go up to $2,500 while allowing penalty-free withdrawal.

Michael Conrath, chief retirement strategist at J.P. Morgan Asset Management, said its research, “Retirement by the Numbers,” showed similar results to the Boston College study, with 13% of plan participants borrowing. Among those borrowers, people took, on average, about 20% of their account balance. But those types of withdrawals, he notes, can have negative long-term consequences.

“It’s important to consider how this cash flow volatility can potentially interact with market returns,” Conrath says. “For example, taking a loan during a market dip and then having to pay it back at a market high goes against the golden rule of investing of buying low and selling high. This can have negative, long-term effects on a worker’s nest egg. Also consider that many participants stop making contributions while repaying loans, which means they could miss out on any company match and leave money on the table.”

Conrath stresses that it is access that is key for savers, which the state auto-IRA programs are providing.

“The most important point to consider is having the ability to put money into a workplace retirement plan,” he says. “Those who have access in the workplace are able to save exponentially more for retirement than those who have to save on their own. Put another way, access equals savings–and educating workers about the benefits is key to driving up those savings amounts and helping workers reach the retirement finish line.”

Correction: This story fixes an inaccurate attribution.

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