Stable Value Funds Amid High Interest Rates

At a time of low interest rates, stable value funds were a clear option in defined contribution plans for a low-risk investment focused on capital preservation and liquidity. After numerous interest rate hikes that started in March 2022, however, money market funds started fetching better returns with many of the same traits and less complexity.

At the start of this year, with the Federal Reserve poised to lower interest rates, it appeared stable value’s day may be returning—but persistent inflation and a strong job market have the market now questioning when rate cuts will happen.

Even so, the value of a low-risk, insurance-backed investment option should still be a consideration for plan advisers and sponsors considering that stable value should start outperforming money market funds by as soon as next year, says David Cohen, head of stable value and head of institutional and retirement investment product for John Hancock Investment Management.

“I can point you to maybe only two times in the last 30 years where money markets for short spurts of time have outperformed stable value,” he says.

Cohen is quick to note that, for retirees operating on a short time horizon, seeing a stable value fund with a return of 2.5% versus a money market yielding 5% would certainly tilt them toward the money market. But for a plan fiduciary serving a wide participant pool, the general trend of stable value funds to outperform as they buy and sell short and intermediate bonds, along with their insurance-backed guarantees, make them a good tool to have in DC plans.

“It’s more about making sure people understand that there is an insurance component to this that protects them when things go bump in the night,” he says.

Cohen notes that in a stable value fund new bonds are consistently being purchased, so as they mature the fund is bringing on higher-yielding credit that will eventually catch up and then exceed money market returns.

“That’s exactly what has happened over the last 30 years,” he says. “The difference now is that things spiked a lot quicker, and when that happens, it takes a little bit longer to play catchup.”

Know Their Value

Stable value funds, which are only available for tax qualified plans, are offered by some 82% of plan sponsors as a capital preservation option, according to a 2022 MetLife study, the most recent available from the insurer. At that time, a whopping 98% of sponsors offering them planned on continuing to do so.

According to the most recent data from the Stable Value Investment Association, there was about $882 billion invested in stable value as of the end of 2023 across four types of offerings. Insurance company products were responsible for $455 billion of those investments, and investment manager products via individually managed accounts and pooled funds made up the rest at $426 billion.

Cohen preaches education about stable value funds for plan fiduciaries. The portfolio manager says he oversees four stable value funds for John Hancock, but also advises on third-party funds for the firm’s recordkeeping business.

“Stable value is not so different than Baskin-Robbins,” Cohen says. “There are 31 flavors of stable value. Understanding the nuances between those products to help best support our clients is where we start and end from an education perspective.”

Cohen argues that, while stable value funds may be more complex at the plan level, participants “never really see any of that noise” outside of a 90-day equity wash provision. That stipulation requires that a participant transferring assets from a stable value fund must first move their assets into a non-competing fund for 90 days before transferring it over fully to a competing fund, like a money market fund or another stable fund.

In a post published by UBS’s workplace wealth solutions divisions, the firm reiterates that plan sponsors need to educate themselves on the various stable value fund options available.

When it comes to collective investment trust stable value funds, for instance, the products are set up in a way that if the issuing insurance went bankrupt, the plan sponsor would “not be listed first among the creditors of the insurance company.” It’s important, the firm notes, for plan sponsors to assess the insurance company ultimately underpinning the funds.

Product Innovation

Cohen also notes that stable value funds, which are not a long-term qualified default alternative investment option, are now offered through a QDIA-vehicle in the form of target date funds. He said John Hancock started offering this investment product around 2019 and sees it as a way for plan sponsors to provide a low-risk investment option as part of the glide path.

“You are seeing more and more stable value presence in target date funds to make sure that we are protecting wealth and preserving it as well as creating a hedge against market volatility,” he says, noting the product evolution is moving into 529 education saving plans and health savings accounts.

How plan fiduciaries evaluate stable value fund use will, to some extent, depend on where the Federal Reserve takes interest rates in coming months and years. But Cohen stresses that plan sponsors and fiduciaries should fully understand the exit provisions that may be applied to a plan level withdrawal and also consider the long term performance history of stable value funds versus money markets when considering the appropriate capital preservation option for their investment lineup.

“If [Federal Reserve Chair Jerome] Powell goes back to zero interest rates at some point, then money market funds are going to be performing at .04% again, which clearly won’t be able to keep up with inflation,” he says.