Stable Value Roundtable

What’s happening in the stable value market? Seven experts from diverse sectors of the industry brought participants at the 2013 SVIA Fall Forum up to speed during a lively roundtable discussion in Washington, D.C. Among the highlights:

Wrap diversification: A preference for having multiple wrap contract providers for a stable value fund still persists among retirement plan sponsors, said Warren Howe, national sales director for stable value markets at Metropolitan Life Insurance Co. But he said the fact that some plan sponsors embraced single-wrap insurance-company stable value products in the aftermath of the 2008 credit crisis, when wrap capacity was constrained, demonstrated that many have become more comfortable with that approach, too.

Unwrapped stable value portfolios: A few defined contribution plans introduced market-value sleeves of securities into their stable value funds prior to the 2008 financial crisis, and interest in such structures increased after the crisis when stable value wrap capacity became constrained, said Jessica Mohan, managing director with Bank of Tokyo-Mitsubishi UFI Ltd., where she oversees its stable value business. Mohan says her firm hasn’t done any new transactions with funds that have included market-value sleeves, but “we’re ready to.” She suggested that these unwrapped portfolios should generally adhere to the investment guidelines established for the wrapped portion of a stable value fund, and that plan sponsors who offer such funds should communicate to their plan participants that their fund is “not 100 percent a stable value fund.”

Tom Schuster, vice president of stable value management with Metropolitan Life, warned that there is headline risk associated with such structures if they lose money and plan participants later say they thought they had been getting traditional stable value guarantees. “It’s not a stable value fund,” he said, adding that he doesn’t think the structures make much sense for any plan that can secure sufficient wrap coverage to offer a “100 percent” stable value option.

Shorter-duration portfolios: Douglas Barry, executive vice president with Standish Mellon Asset Management Co., said that like many stable value managers, his firm has been managing to some shorter-duration benchmarks for many clients, typically in the range of 3.5 to 4 years. “We’re incorporating more 1-to-5 year (maturity) strategies, with a duration of about 2.5 years,” he said, “and we’re okay with that given where we are in the interest-rate cycle.”

Wrap capacity and pooled fund closings: A contraction in stable value wrap capacity following the 2008 financial crisis forced some pooled stable value funds to close or limit new deposits. Steve LeLaurin, senior client portfolio manager for Invesco Advisors Inc., said wrap capacity has since improved. Metropolitan Life’s Schuster said that while some smaller, top-heavy pooled funds may continue to find it difficult to secure sufficient wrap capacity to do new business, he thinks well-diversified, transparent funds, especially those with longer put structures, will continue to get all the capacity they need. (A top-heavy pooled fund is one in which a handful of plans account for the bulk of the fund’s assets. A “put” refers to the length of time—usually 12 months—that a defined contribution plan must give a pooled fund to carry out the plan’s exit from the fund.) LeLaurin said that his own firm “had a limited soft close for a while until we could get additional wrap capacity, allowing us to reopen on a cautious basis.”

The impact of rising rates on wrap capacity: If interest rates began to rise sharply, market-value-to-book-value ratios for stable value funds would likely fall, at least temporarily. Schuster said Metropolitan Life’s appetite to write new business might become constrained if those ratios fell too much. “At a ratio of around 98 percent, assuming cash flow remains strong, we’d still be in the market,” he said. “When you start hitting 95 percent, that’s where you hit a bit of a pause, at least from MetLife’s perspective. At 95 percent I believe you see wrap capacity start to become a little constrained.” Mohan agreed that ratios in the 98 percent to 102 percent range—typical historically—are very comfortable for wrap issuers.

Wrap capacity for 403(b) plans: Schuster said the challenge to wrap providers interested in the 403(b) market is the minimum non-forfeiture rate that applies to those plans. “In a very low interest-rate environment, like the one we’re in, that one percent guarantee with an annual rate reset presents some challenges to a wrap provider,” Schuster said. “My belief is that if interest rates were to rise and that one percent non-forfeiture rate could be safely met, there would be more interest in pursuing 403(b) opportunities.”

A smaller community of wrap providers: While stable value wrap capacity has been improving for several years now, there still are not as many wrap issuers as there were before the credit crisis. But there are more than there were at the market’s bottom. “We love the fact that there’s more choice now,” said Standish Mellon’s Barry. “The way I characterize it for our clients is there was a period of time when our portfolio managers had one option, and that was the option to put money to work that day. Today we have choice, which is a wonderful thing to bring to our clients and our portfolios. We love the fact that there are new competitors in this marketplace and that we can diversify portfolios broadly.”

Tighter investment guidelines: permanent or temporary? Invesco’s LeLaurin said his firm views the tightening of investment guidelines in the wake of the 2008 credit crisis as a temporary phenomenon. “Maybe guideline allowances were just too liberal for a while, and now we’ve reined in the outliers,” he said. “We don’t anticipate there will be new investment restrictions, and hopefully going forward we’ll be able to manage in a way that produces the best results for clients.”

“Portfolios have changed,” added Mohan, “and (those changes) are here to stay, with a stricter compliance network, for the time being. If there is pushback, wrap providers will respond, but I don’t think we’re going to go back to (riskier) asset classes or concentrations we saw in 2008.”

 Schuster said he also thinks the more explicit investment guidelines now in place are “here to stay for the foreseeable future.” But he added that his firm is willing to liberalize investment guidelines if an asset manager it’s hiring as a sub-advisor can demonstrate capabilities in a given sector of the marketplace, such as collateralized mortgage securities or asset-backed securities.

Longer put provisions: While some pooled stable value funds have been lengthening the standard 12-month put—the notice period a plan must give before exiting the fund—Howe said he’s not sure that it’s a trend. However, he said, funds that stick with a 12-month put may find themselves forced to maintain a shorter duration in their investment portfolios and accept additional investment restrictions. Schuster noted that, all other things being equal, his firm will wrap a greater percentage of a pooled fund with a 24-month put than it will for one with a 12-month put. Matt Gleason, managing director of Dwight Asset Management Co., said his firm decided to stick with the 12-month put in its book of business. “We didn’t want to give up liquidity beyond that 12-month period,” he said. Barry said Standish Mellon made the same decision, as it was not convinced that much more wrap capacity would be available if it extended the put period. LeLaurin said his company, which operates several pooled funds, concluded that a 24-month put could benefit its plan sponsor clients by providing greater protection for retirement plan participants who stay in the fund. Many of its clients adopted a 24-month put with little pushback, he said, although a few did exercise their right to leave Invesco funds rather than adopt the longer 24-month put.

Stable value’s role during decumulation phase of retirement: Roundtable participants as a group weren’t certain what role stable value will play as retirement plan participants segue into the decumulation phase of investing—withdrawing, rather than accumulating, assets. However, LeLaurin observed that some retirement plan record-keepers have the ability to send regular monthly payments to plan participants once they are ready to begin making withdrawals, and, he said, “stable value could be the conservative, non-volatile asset from which those withdrawals are taken.”

Outlook for stable value funds: Investment professionals generally agree that with interest rates near historic lows, rates have almost nowhere to go but up once the economy regains full steam. But the 2013 SVIA Fall Forum panelists said plan sponsors shouldn’t be overly concerned about the impact on stable value funds. LeLaurin noted that stable value funds were designed to cope with rising rates, and that the effects of even a rapid rise in rates would likely be transitory. Howe noted that a rising rate environment could send market-value-to-book-value ratios for stable value funds below 100 percent for a time, but said this, too, is normal and manageable. Schuster agreed, noting that the stable value crediting rate mechanisms amortize investment gains or losses over time, cushioning investors from sudden market moves. And Mohan observed that rising interest rates can be negative for other asset classes too, so that singling out stable value funds for worry probably doesn’t make much sense. 

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