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SVIA Call on Department of Labor to Add Stable Value as Fourth Default Investment Safe Harbor

SVIA called upon the Department of Labor (DOL) to add stable value as the fourth qualified default investment alternative (QDIA) in comments on the DOL’s proposed regulations on default investment alternatives for defined contribution plans.

The Pension Protection Act (PPA) set the stage with a triple play to increase retirement security through auto-enrollment, auto-escalation of participants’ contributions, and auto-investment. The PPA’s last component, auto-investment, requires the DOL to create investment safe harbors from fiduciary liability for plans that direct investments because no investment instructions are given by participants. These investment safe harbors are called QDIAs. However, in the DOL’s race to complete the play, they exclude capital preservation investments such as stable value from the three proposed QDIAs: lifecycle or target-retirement-date fund, a balanced fund, or a managed account fund. Instead, the proposed regulations permit stable value and similar capital preservation investments only as a component of the three proposed QDIAs.

More importantly, by excluding capital preservation investments as a stand alone QDIA, the DOL ignores the PPA’s mandate to include a capital preservation default investment. The Act charges the DOL to provide guidance on default investments “that include a mix of asset classes consistent with capital preservation or long-term capital appreciation, or a blend of both.”

According to a recent Annual Survey of Profit Sharing and 401(k) Plans, 27 percent of defined contribution plans currently use stable value as a default option. The DOL’s proposed regulations incorrectly assume that plan fiduciaries like those in the survey use stable value as a default because it provides the least risk and, thus, the best protection against fiduciary liability. However, the proposed regulations fail to recognize the many reasons beyond fiduciary protection for which plan fiduciaries turn to stable value as a default option. These reasons are:

• Stable value investment performance has been competitive and consistently exceeded the rate of inflation over the past 15 years, as demonstrated in the Historical Performance Table and Growth of $10,000 Chart, respectively.
  
  
• Stable value funds, including “lifecycle” or “target-retirement-date” funds and balanced funds, have less volatility than investments with equity components. Less volatility may, in fact, make stable value better able to preserve future retirement income and prevent erosion of benefits than the types of funds under the proposed QDIA definition.
  
  The Cultural Institutions Retirement System (CIRS) brings home this preservation and performance point. As they explain in their comment letter, “Exposure to these types of investments (balanced, lifecycle or target-date funds) will improve diversification, but may not always result in better investment performance. We (CIRS) believe that defining risk in a lifecycle or target-date fund based solely on age has the potential to expose employees to volatile returns in the equity and fixed income markets when they leave one of our employers. A case in point from our experience is the short service, higher turnover rates among younger employees. Many do not stay to vest in the CIRS Pension Plan, but have a Savings Plan account balance when they leave. Such young employees are the most likely to experience a loss in age-based funds due to the high equity exposure. The short service employees appreciate the fact that they do not experience any loss of principal in their account balance. The same argument is made by older workers who come to work at one of our member institutions and do not want to risk any investment loss.” This point is illustrated in the Volatility of Returns Chart.
  
  
  
  
• Stable value funds have relatively low costs compared to “lifecycle,” “target-retirement date,” and balanced funds, particularly those that use a “fund of funds” structure. According to a 2004 study by IOMA, Inc., a business information firm, annual fees for stable value funds average 42 basis points, compared to 74 basis points for “lifestyle” funds that are analogous to lifecycle and target-retirement-date funds and 78 basis points for balanced funds.
  
  
• Many plan participants are risk averse, particularly those close to retirement age or who plan to spend only a short time at a given company. These participants’ risk aversion may cause them to stop contributing to their 401(k) if there are losses. One of the peer reviewers of the Department’s economic analysis in connection with the proposed regulation pointed out that low-income workers also may be risk averse, such that any additional expected income from lifecycle funds “may only come with an unacceptable amount of risk.” It is appropriate for plan fiduciaries to choose more conservative default investments, such as stable value, based on the demographics and other facts and circumstances of their particular plan. In fact, surveys show that participants move more of their money into less volatile, more conservative investments such as stable value funds as they age.
  
  

Finally, the Department’s economic analysis supporting the proposed regulations implicitly acknowledges that the principal contributor to savings is increased contributions, not higher investment performance. Research on this subject confirms that the key driver for generating retirement savings is the rate of deferral of income rather than asset allocation. As a result, fund selections that discourage increased contribution levels due to the risk aversion of participants would do more to decrease retirement savings than the choice of potentially higher-performing funds would increase such savings.

A broad spectrum of over 80 commentors have joined the SVIA in making the case to add stable value as the fourth QDIA. The advocates for stable value as a QDIA safe harbor include plan participant representatives such as the AFL-CIO, the AFSCME, and the Pensions Right Center; plan sponsor groups such as the American Benefits Council, the ERISA-Industry Council, the Profit Sharing/401(k) Council, the National Association of Manufacturers, the Chamber of Commerce, the Employers Council on Flexible Compensation, and the Society of Human Resource Management; and providers of capital preservation investments such as the American Council of Life Insurance, the Committee of Annuity Insurers, the National Association of Variable Annuities, and SVIA. Only three commentors specifically criticized capital preservation investments and supported the Department’s proposed exclusion of preservation investments from the safe harbor.

The Department now has strong evidence to explicitly include capital preservation in the safe harbor. This evidence challenges the Department’s rationale for excluding capital preservation investment vehicles. The evidence and the breath of support for capital preservation investments should correct what Buck Consultants’ aptly called “a significant omission.”

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