Home > Library > Stable Times > Volume 4, Issue 2  

Stable Value's Hidden Segment: Life Company Full Service Funds

Life company full service guaranteed funds, the earliest DC Stable Value option, remain extremely popular with plan sponsors although they have remained virtually invisible to other providers within the industry. The Association's 1999 Stable Value Fund Investment and Policy survey covers $48.5 billion of such funds as of 12/31/98 representing over 93,000 defined contribution plans with total plan assets of $183 billion.

The Full Service SV Fund

These funds are most typically part of a bundled 401(k) or other defined contribution plan sold by the life company providing the Stable Value guarantee. The wrap guarantor is also the fund manager and the plan administrator. This complete vertical integration has helped keep the segment 'hidden' from other providers in the SV marketplace.

Full service Stable Value Funds are commingled funds and compete directly with Stable Value pools in the smaller plan market. The average full service Stable Value Fund averaged less than $1 million in the 1998 survey, compared to $3 million for bank and investment company pools and $227 million for non-commingled funds managed by Stable Value managers. The commingled funds offer smaller plans economies of scale and diversification benefits that they would not be able to achieve on their own.

Full Service SV Investment Characteristics

We typically think of a Stable Value Fund as having a mix of GIC, synthetic GIC and separate account contracts from a variety of issuers. However, the full service fund generally consists of one or more investment contract(s) invested in assets in the life company's main general account - a wrapped portfolio of public and private bonds, commercial mortgages and CMO's. The chart below shows the dollar-weighted asset mix backing these funds as of 12/31/98.

Not surprisingly given this asset mix, the duration of these funds at 3.7 years is significantly longer than the 2.5-year duration of SV Funds in the '99 survey. Bank and investment company pools, the full service funds' primary SV competitors, had durations of 2.4 years and 8.4% in cash as of 12/31/98. Longer durations produce higher yields on average but increase the risk of having the crediting rate lag market rates in a rising rate market.

The longer durations work for full-service funds because of several unique product features. Because they are invested in the life company's general account, these funds have access to other liquidity sources within the life company, including lines of credit, so need not maintain as large a short-term portfolio as many other types of SV Funds. The funds also have the ability to credit a different rate on new deposits than on the existing portfolio, which helps produce a competitive market rate for new sales in a rising rate market. Also, about half of the full-service funds in the survey (on a dollar-weighted basis) limit the volume of participant transfers at which can be made at book value. This reduces the risk of participant withdrawals further lowering the credited rate in a rising rate market.

Commingled SV Fund Comparison by Type

Wrap Diversification Issues

Some question whether the single guarantor structure of full service funds provides adequate diversification of the wrap risk. The ERISA 404(c) regulations specifically note that a single guaranteed contract from a life company, like a single mutual fund investment, qualifies as a diversified investment under ERISA as a "look-through" instrument where one looks through to a diversified pool of assets underlying the investment. In addition, because the guarantor in these funds is also administering the participant's account, many states classify the full-service contracts as "allocated" contracts that are eligible for state insurance guaranty fund coverage should the insurance guarantor have financial difficulty.

Full Service Plans' Asset Allocation

It's somewhat ironic that the least visible segment of the industry to other Stable Value providers is the one with the highest overall Stable Value allocation in its 401(K) plans. According to the recent 401(k) provider guide in CFO magazine, participants in life company 401(k) plans allocated 18.4% to Stable Value assets, compared to 10.2% in mutual fund company plans and only 6.7% for banks¹. Presumably a higher proportion of the life company plans offer Stable Value Funds. However, the SVIA survey indicates that the full service plans also have a higher allocation to Stable Value where the fund is offered than some other manager segments. This isn't surprising given the historic importance of Stable Value to the life industry, but it does indicate that this "hidden segment" of the business may have some useful information for the rest of the industry.

Read Next: Performance Presentation Standards... They May Not Be as Inflexible As You Think