Data & Research March 13, 2012

More Organizations Considering Investment Outsourcing

A survey by Mercer found that 41% of organizations with assets below $500 million are considering investment outsourcing. 
Reported by

 

According to the survey, 31% of those surveyed with assets in the $501 million to $1 billion range are also considering outsourcing.

For more stories like this, sign up for the PLANADVISERdash daily newsletter.

A major reason for delegating some or all fiduciary responsibility for investment decisions relates to the need for speed and sophisticated decision-making in a volatile, fast-moving market environment.

Tom Murphy, U.S. head of fiduciary management at Mercer, told PLANADVISER that a number of factors are leading committees to consider investment outsourcing. He said that typically committees only meet once per quarter, which means they cannot execute decisions in a timely fashion. He also mentioned that most committee members are not investment professionals; therefore, it would be a lot more straightforward and efficient to give the investment responsibilities to an expert.

“We believe the trend to investment outsourcing will accelerate due to a combination of factors: volatile market conditions, the desire to take faster and more considered investment decisions, and the challenge of staffing to adequately monitor performance and risk in real time,” said Murphy.

 

Some 27% of respondents to the Mercer survey also state that they have missed investment opportunities due to the time it takes to make or implement decisions, a 6% increase from a similar survey that Mercer conducted in June 2010. The largest impediments to delay in decision-making have been market volatility (26%) and not enough expertise (20%). The largest impediments to executing asset allocation and manager changes have been insufficient staff (18%) and market volatility (15%).

As market conditions continue to be challenging, one-third of respondents take more than three months to make a decision about asset allocation or manager changes, and 11% take six months to a year. Lack of speed of execution, once a decision has been taken, compounds the problem. Nearly half the respondents to the survey (44%) take from one to three months to execute asset allocation or manager changes. One-in-five (21%) take more than three months to execute a decision.

Murphy said this happens because there is a lot on the committees’ agenda. Based on the complex environment, many committees are hesitant to make any decisions. They are unsure if they have all the information they need to make an informed decision, and they fear they might make the wrong decision; therefore, it takes a long period of time for a committee to execute a decision on asset allocation.

For pension plan sponsors, 2012 is shaping up to be a challenging year in which there is increasing pressure for speed and quality of investment decision-making. Since the first of the year, faced with major pension deficits and the requirements of the Pension Protection Act (PPA), many major companies have announced significant increases in planned contributions to pension plans. Mercer expects to see additional announcements of large cash contributions to plans as companies file their I0Ks over the next few weeks, and expects, for many, this burdensome cash contribution requirement will carry into 2013. 

 

 

Murphy added that although the markets have been quite good, the only way companies can make up the additional deficit is to make additional contributions.

“In the corporate sector, companies are facing a dramatic increase in balance sheet deficits in 2012 and beyond, increased income statement expense, and a sizeable increase in cash contributions to their pension plans,” said Murphy. “For endowments, foundations and hospitals, the problem is often the complexity of many investment decisions and a lack of resources. Given these factors, a delegated option should look very attractive to a growing number of boards and investment committees.”

Staffing may be a particular challenge for all respondents. Half of the institutions surveyed have either one or no full-time staff managing investments, and 89% of the respondents have no plans to change staffing levels in the coming year.

Mercer’s survey was conducted in November, 2011 among 100 organizations with institutional funds. Approximately 57 of these were corporations, 25 were endowments, foundations or hospital systems, and the remainder included professional organizations and government bodies.

 

Data & Research March 13, 2012

ETFs More Cost Effective Than Index Mutual Funds

Invest n Retire, LLC has been a big proponent of using exchange-traded funds (ETFs) in defined contribution (DC) plans, and now it has data to support its stance.
Reported by

Neil Plein, vice president of Invest n Retire, LLC, told PLANADVISER there is a lot of pushback for using ETFs in DC plans. Plein says some people think there is no need to use ETFs instead of index mutual funds because costs are the same.  

Invest n Retire told plan fiduciaries that index funds do not compete with ETFs, but there was no real study to compare the costs.

For more stories like this, sign up for the PLANADVISERdash daily newsletter.

Invest n Retire therefore conducted a study and found—for the majority of plans—they would be better off using ETFs than index mutual funds because ETFs offer substantially lower costs. Plein says this is an important finding with fee disclosure requirements coming into effect and the requirement that plan sponsors use investment options that have reasonable fees. The findings offer incentive for sponsors to look into using ETFs as an option.

Invest n Retire has approximately 25 investment managers across the U.S. that have analyzed retirement plans to prepare proposals, so there are thousands of these plan analyses in its system. Ninety-two plans from across the country were chosen at random, and with their permission, Invest n Retire analyzed the cost of their investments using data from Form 5500s and plan audit reports.  

According to a report Plein wrote about the study, the expected decrease in pricing was observed as a function of plan size. For the micro plan market (less than $5 million in assets, the largest pool of plans studied), the average cost of an index mutual fund was 52 basis points (0.52%). For the small plan market ($5 million to $50 million), the average cost was 36 basis points, for the mid-size plan market ($50 million to $200 million), the average cost was 24 basis points, and for the large market (more than $200 million), the cost was 12 basis points.  

By taking the five major indexed asset classes from the study and the respective ETFs for each class from the three major service providers, an average cost of 18 basis points (0.18%) can be established. Given that ETFs do not have multiple share classes or minimum asset levels for investment, the expense ratio of ETFs for retirement plans would be the same regardless of plan size. At this rate, index mutual funds only become truly competitive in the large plan market ($200+ million in assets).  

Invest n Retire used the same asset level breakpoints used by PLANSPONSOR Magazine in its 2011 DC Plan Survey. The PLANSPONSOR data shows that the overwhelming number of plans (88%) in the U.S. has less than $200 million in assets.

So why are ETFs more cost effective? Plein says the main reasons are: 1) ETFs are traded in the open market throughout the day like a stock, whereas a mutual fund must be traded through an investment company; there are higher costs associated with exchanging a fund via a company compared to exchanging a fund through an exchange; and 2) ETFs have a lower turnover ratio than mutual funds; the way ETFs are constructed, participants are only paying the cost of the day, whereas mutual fund investors have to pay trading costs with each turnover of fund.  

“ETFs are really maximizing the cost effectiveness in every aspect of their design,” Plein adds.  

He concludes that while plan sponsors are in the position of closely looking at expenses and making sure investment costs are reasonable, they should take a serious look at using ETFs.  

“We are really big proponents of helping the average participant, and ETFs are a good way to do that,” Plein says. “They [ETFs] are waiting for their breakout in retirement plans, and we’re hoping with fee disclosure, now will be the time sponsors will look at ETFs as a way to lower costs and increase outcomes for participants.”  

The full report is here.

«