The Markets May 6, 2020

QDIAs Have Evolved. They Will Again After the Coronavirus.

Many participants appear to be battled hardened from the Great Recession and are enjoying at least some measure of protection from well-diversified default portfolios.
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Most participants invested in a qualified default investment alternative (QDIA) stayed the course in the first quarter, despite the tremendous decline in the market associated with the coronavirus pandemic, says David Blanchett, head of retirement research at Morningstar Investment Management.

Blanchett made this point during a recent webinar hosted by four industry organizations—the Defined Contribution Institutional Investment Association (DCIIA), the Retirement Advisor University, the SPARK Institute and the Plan Sponsor University.

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Only 2% of those invested in a managed account made a trade and only 2.1% of those invested in a target-date fund (TDF) made a trade, Blanchett explains. By comparison, 17% of those who self-direct their investments made a change, he says, and 22.7% of those invested in more than one TDF vintage made a change.

“You don’t want them trading because this hurts them in terms of long-term performance,” Blanchett says, noting the tendency of nonprofessional investors to chase performance and “buy high, sell low.

Sharon Scanlon, a senior vice president who heads up retirement plan services at Lincoln Financial Group, agrees that investors in her company’s products mostly stayed the course in the first quarter.

Liana Magner, partner in the U.S. defined contribution practice of Mercer, adds that since the Great Recession of 2008, near-retirement TDF vintages have scaled back their equity exposure. In 2008, they suffered a 14% decline, whereas in the first quarter of 2020, they went down by 10.4%.

“This is mostly because they have less exposure to growth,” Magner explains. “Long-term bonds have helped as well. The key question is how will this COVID-19 crisis impact the TDF marketplace? Will they take on more downside protection? Will there be more focus on retirement income? Will there be more use of custom funds? It will take some time for the investment managers to become more strategic, but we do expect a reinvention phase.”

Joe DeNoyior, president Washington Financial Group, a division of HUB International, says one of the most important perennial challenges plan sponsors face is determining the appropriate QDIA for their workforce.

“The 2008 crisis exposed that not all TDFs are created equal,” he adds. “Some can mitigate volatility. Some are tactical. In this sense, TDFs have become more sophisticated, and we think sponsors should expand their due diligence as a result. Plan sponsors need to scrutinize their default options by taking a view through their employees’ eyes, as well as taking a look at their demographics.”

DeNoyior notes that more of Washington Financial Group’s clients have been considering managed accounts in recent years. DeNoyior expects more sponsors will adopt them, particularly as the expanded use of automatic enrollment and automatic escalation has resulted in higher balances.

“They can provide for difference risk tolerance and tend to have better stickiness of assets,” he says. “Once the dust settles from this crisis, we think plan sponsors will be more inclined to use managed accounts as the QDIA, or at least offer it in their plan.”

Doug McIntosh, vice president of investments at Prudential Retirement, says that plan participants generally have performed better during this crisis than in the Great Recession of 2008—largely because of the increased use of TDFs as the QDIA. In 2008, 60% of plans used TDFs as the QDIA. Today, that is 97%. In addition, “today, TDFs have generally taken down risk for those closest to retirement,” McIntosh says.

“The glidepaths have gotten more conservative,” he says. “As well, there are a broader set of asset classes being utilized, such as TIPS [Treasury Inflation Protected Securities] and private real estate, to minimize equity volatility and inflation.”

However, he believes TDFs need to become even more conservative, noting that some 2025 TDFs lost 20% to 25% of their value in the first quarter of 2020. “If I am only five years out from retirement, that is a concern,” he says.

In addition, the SECURE Act encourages plans to offer income solutions. McIntosh believes that should be part of the QDIA. He also expects TDFs and managed accounts to pair actively managed fixed income with low-cost passive asset management on the equity side.

As to how investors who manage their own portfolios fare compared to those in the QDIA, McIntosh says, the self-directed investors, especially those in brokerage accounts, underperform.

The Markets May 5, 2020

The Pull of Managed Accounts: Protection in Downturns

It’s not usually the best quarters in the equity markets that demonstrate the potential value of managed accounts relative to target-date funds.
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Art by Harry Campbell


Retirement plan advisers and investment managers agree that in periods of marked volatility, managed accounts serve investors better than target-date funds (TDFs) and target-risk funds because of their ability to navigate changing markets—as opposed to being tied to a set glide path.

“As managed accounts are actively managed, they can be more tactical and focus on specific areas of the market,” says Ken Van Leeuwen, managing director of the Van Leeuwen Company. “For example, if you look at two areas doing well right now, technology and cloud computing, investment managers can hone in further in those areas and get more granular. They can find that Amazon, Microsoft and IBM are good investments. REITs [real estate investment trusts] that are storage facilities for computers is another area of positive performance that can be pursued. TDFs are stuck in their glide path strategies and cannot be tactical.”

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Darnel Bentz, senior vice president and senior wealth adviser with Kayne Anderson Rudnick Wealth Management, also believes that “managed accounts are better—assuming that they are selective and actively traded with 30 to 50 names and not ‘closet index funds’ with hundreds of stocks.”

As Bentz explains, managed accounts that invest very broadly and mirror index funds—i.e., “close index funds”—are likely not going to produce excess returns to justify their higher cost.

“Managed accounts can overweight and underweight sectors to outperform,” he says. “For instance, right now, if you are overweight health care and technology, you are going to do much better. There are sectors that will take years to recover, while some companies are even thriving in this environment.”

Kurt Wedewer, regional president at American Trust Retirement, says one problem with target-date funds is the fact that the set glide path can lead to selling low and buying high—or becoming conservative at the worst possible time.

“How a managed account will invest is based on many other factors, including outside assets and other retirement assets,” Wedewer says. “Managed account managers will also incorporate economic conditions into their assumptions. The fact that TDFs are solely focused on age can lead to financial decisions that can negatively impact performance.”

Yet another advantage of managed accounts is that they can provide tax loss harvesting, Bentz says.

Knowing that their managed account is being actively managed also assuages investors’ fears during periods of volatility, helping them to remain invested, Wedewer says. “The other significant advantage of managed accounts is how they tamp down human emotion during periods of pronounced volatility,” he says. “A managed account takes the emotion out of it because the investor knows they have someone managing their account. It is a comforting feeling for participants.”

Indeed, David Blanchett, head of retirement research at Morningstar, says he recently took a look at how managed account and TDF investors reacted to the volatility that was unleashed as the coronavirus took hold.

“I have been looking at who stayed the course,” Blanchett says. “Both TDF and managed account users have done very well. Less than 2% of investors in both made a trade, with managed account investors holding on a little bit better than TDF investors.”

Of course, for a managed account to serve investors well, they need to share information about their finances with the manager, Wedewer notes. In his experience, managed account investors do engage pretty well with their managers.

“They want their money manager to know as much as they can about their finances,” he says. “They tell them their age, their compensation, their outside assets and what they expect from Social Security. Customization is the operating piece that managed account providers hang their hat on.”

Empower Retirement believes that both target-date funds and managed accounts can serve investors well, at different periods of their lives. In 2017, Empower introduced a dual qualified default investment alternative (QDIA) called Dynamic Retirement Manager.

“We leverage a target-date suite for the younger population and automatically, with an age trigger, move them into a managed account structure as they get closer to retirement,” says Tina Wilson, chief product officer at Empower.

“We see both as complementary,” Wilson continues. “The reason for this is studies show that TDFs are good when you are young. As you reach the mid-career point, a more personalized approach that focuses on downside risk, risk preferences and outside assets is more valuable for people.”

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