Would a standard stable value contract be a better stable value contract?
For years, plan sponsors who have shied away from stable value have attributed their caution at least in part to the product’s perceived complexity, including restrictions that relate to employer-initiated events and participant trading in competing funds. During a panel discussion at the SVIA’s 2017 Fall Forum in Washington, D.C., stable value managers and wrap issuers debated whether standardizing contract terms across the industry would make sense.
The general consensus was that it would not, although the panelists were open to the idea of trying to simplify their product’s structure to make it easier for plan sponsors and their consultants to embrace it. Nick Gage, head of stable value separate account strategy at Galliard Capital Management, said the industry might be able to coalesce, for example, around a more universal definition of competing funds.
“We can definitely look to simplification, but it’s going to be really important to find the right balance so that the tradeoffs we make allow us to still have a vibrant market, and perhaps invite others into the market so we can take advantage of our growth opportunities,” added Gary Ward, head of stable value at Prudential Financial.
Shane Johnston, senior portfolio manager at Morley Financial Services, noted that while consistency across the industry might be helpful for some plan sponsors, it could impinge on the ability of stable value managers to tailor their product to the specific needs of other sponsors.
Bradie Barr, president of Transamerica Stable Value Solutions, expressed similar concerns. She conceded, for example, that while the industry does have some consistency in defining what counts as an employer-initiated event, issuer responses to such events vary quite a bit and perhaps could be more consistent. But, she added, in her experience, stable value managers often view their ability to negotiate the details of how wrap issuers handle employer-initiated events as a differentiator between themselves and their competitors.
“There are a lot of other contractual terms, such as investment guidelines, that we need to be careful in addressing so that we do not overly standardize or commoditize our market,” Ward added. “That’s when barriers to entry go up (for potential new wrap issuers), and the attractiveness of exiting the market also goes up. We need to be careful, as we look at our industry’s great growth opportunities, to allow managers and wrap providers to differentiate themselves while still meeting the needs of the market for more simplicity.”
Barr suggested that ultimately the stable value market might divide itself into three tiers, with lower-cost, plain-vanilla wrap contracts covering simple, lower-risk products at one end, higher-cost and highly customized contracts covering stable value funds with riskier characteristics at the other end, and a middle market between the two extremes. “Those wrap providers that can tolerate a certain level of risk, or apply resources to the complexity of certain products, will command a higher fee than somebody looking at a very standardized language and terms,” she said.
The panelists agreed that the stable value market has ample wrap capacity right now, despite the recent decision by Bank of Tokyo-Mitsubishi UFJ to exit the market. Robert Madore, portfolio manager at T. Rowe Price, noted that his firm’s stable value funds had about $1 billion in assets wrapped by Bank of Tokyo-Mitsubishi, and was able to replace that capacity within two weeks.
While generally applauding the ample availability of wrap capacity today, the panelists expressed some reservations about stable value managers taking advantage of it to spread their business among many more wrap issuers than they might have in the past. While that sort of diversification may help to mitigate risk, they said that taken to the extreme it could make it difficult for individual issuers to meet their return hurdles and so maintain their commitment to the business. The panelists sounded the same caution on pushing managers too aggressively for fee reductions, even as they acknowledged that the entire investment industry is under fee pressure.
“We’re fiduciaries and have to do what we have to do for our clients,” Madore said. “At the same time, we have to be careful, as managers, that we don’t push too hard. If we push too hard, we lose wrappers and we end up with a product that doesn’t work.”
To that point, Barr added that wrap issuers today are doing much more granular analysis of the stable value investment portfolios they’re wrapping to better understand their risks—something that benefits the entire industry. But, she said, “that takes resources. It’s not just the investment risks we need to be compensated for, but also the operational resources it takes to be able to support and mitigate the investment risks we’re taking.”