After The "Crash" Of '08, Maybe It's Time To Leave The Driving To The Professionals
The numbers are in for 2008 and – no surprise here – they're not pretty. Retirement plan accounts took a beating. Sure, the economy was the culprit. But what did we learn? One lesson could be that rather than having employees steer their own investments, it might be smarter to leave the driving to a professional.
According to an analysis done by the Employee Benefit Research Institute (EBRI)1 using a database of more than 21 million participants:
- Participants with larger account balances suffered much larger losses on a relative basis than those with smaller account balances. Factoring in new contributions, participants with account balances in the range of $10,000 to $50,000 pretty much broke even, on average. However, those with account balances greater that $200,000 lost more than 25% of their 2007 year end value.
- Due in part to much higher than expected equity components in the accounts of older, longer-tenure workers, participants with more than 20 years of tenure with the same employer suffered more than a 25% loss, while the average account of those with less than five years of tenure actually saw a slight gain in value.
- With the exception of newly hired older workers, those participants in the 55 – 65 age bracket suffered the greatest relative declines in their accounts during 2008. This was because almost 1 in 4 participants between the ages of 55-65 had more than 90% of their accounts invested in equities at the beginning of 2008, and more than 2 in 5 had more than a 70% equities exposure.
- The amount of time it may take for participants' accounts to rebound or recover from the steep investment declines of 2008 (and now, 2009) will in large part depend on whether the accounts are still invested or at least partially invested in equities - with a positive return - or have no exposure to equities.
- Had all of the participants in the study been invested in the average target date mutual fund (a 51/49 allocation) at the beginning of 2008, approximately 40% of the participants would have had a much lower exposure to equities in their accounts and therefore would have suffered much lower losses.
Although analysts and academics have only just begun the process of slicing and dicing the data relating to how 401(k) investments fared during the crash of '08 and how participants reacted (or didn't react), we have a couple of observations for your consideration:
- Given that fact that the older, longer-tenured participants with larger account balances were hit much harder by the sudden and sharp downturn in the market, it is particularly important for these accounts to be properly invested going forward.
- When left to their own devices (that is, allowed to direct their own accounts), many older participants with larger balances were investing quite aggressively – perhaps in an effort to catch up from their losses during the dotcom bust.
- Undoubtedly, some if not many older participants have fled, or will flee, the equities markets altogether after getting burned during 2008 and 2009.
- Many, many participants, young and old, have no stomach left for investing their own retirement accounts (which now may represent their single largest asset – with the value of their homes evaporated).
If a good portion of this information sounds too familiar, like something that you and your company's employees have been experiencing, we suggest that you consider an alternative: letting someone else, a professional, do the driving – in this case the investing of your 401(k) accounts. In this regard, see what we said a couple of years ago in "A Step Beyond ERISA Section 404(c): Improving On The Participant-Directed 401(k) Investment Model," (link right). Then we argued that given human nature and the inability of participants to invest according to modern portfolio theory, it might make sense to have participant accounts be non-participant-directed (invested instead by a registered investment advisor). Due to what has happened in the markets, and the critical need for a disciplined investment approach going forward, employers and their employees should think of the advantages of just going along for the ride.
1Jack VanDerhei, "The Impact of the Recent Financial Crisis on 401(k) Account Balances," EBRI Issue Brief, no. 326, February 2009.