Greek Tragedy? Not Quite

Via the eNewsletter published every Monday by 401kHelpCenter.com, we ran across a strange Pensions & Investments story on the allegedly ill effects of shifting default investments from cash-equivalent investments to more equity-centric target-date funds. Here are the opening 'graphs:

Defined contribution plan participants have been exposed to more financial market risk by the increased use of target-date fund strategies as default investment options and away from more secure investments, according to a new study by Greenwich Associates.

According to the report, "U.S. Defined Contribution Pension Plan Research Study," from 2007 to 2008, the share of plan sponsors using money-market or stable-value funds as their default investment option dropped to 19% from 35%, while the share of plans using target retirement date funds jumped to 53% from 35%.

Analysts at Greenwich reported a large number of employees took on exposure to financial markets in general and to equity markets in particular virtually on the eve of the biggest market collapse in 70 years, a news release about the study said.

"It's like a bad Greek tragedy," Chris McNickle, consultant at Greenwich Associates, said in the news release.

We've riffed on some of the weaknesses of target-date funds in this space (here for example). So we aren't out to defend these vehicles across the board. But what in the world is McNickle talking about? After all, those who were automatically enrolled into equity-focused target-date funds were presumably just getting started in their current plans. They may have been young workers just getting started with their very first retirement plan, or they may have been slightly older, but just getting started with a new plan.

Either way, we're pretty sure the benefits of dollar-cost-averaging new money into relatively risky vehicles during a period of plummeting asset values far outweigh the costs. In other words, in the absence of big accumulated account values, the opportunity to acquire long-term assets at fire-sale prices is clearly a great thing, and the shift away from cash-equivalents toward target-date funds has helped many American workers acquire those assets at depressed prices.

Given the overwhelming power of inertia in participants' decision-making, we think it's great news that so many American workers will be plowing money into stocks (not exclusively into stocks, of course, but more than the old default-'em-into-the-money-market-fund regime would have allowed) while they're on sale.

Are near-term target-date funds too equity-heavy? Some clearly are, but that's a separate problem. The bigger point, that automatic enrollment into target-date funds (or, better yet, target-risk funds) will almost certainly serve participants well in the long run, seems to be lost not just on (understandably) panicky participants, but on some industry professionals who should know better.

Source

John D'Antona, Jr., "Boost in target-date funds hurts 401(k)s, Greenwich says," Pensions & Investments, February 17, 2009

Comments

[bigmoney:]

it wasn't long ago that stocks were a slam dunk to great riches, and money markets and conservative fixed income were for chumps. Maybe that is still the case. Time will tell.

Feb 24 10:24 PM

[searcher:]

Ownership in enterprises that can deploy capital for profit, whether material production or services, will prosper, as always. Those that cannot will wither, as always. There are fish in the sea at both high and low tide. Keep the hull sound and the bow into the the seas.

Feb 25 01:16 PM

[riverside:]

I think the P&I article gets it a bit wrong. The actual report from Greenwich was about how companies had been trying for years to get employees to participate in their 401(k) plans and had just started getting participation rates up when the market collapsed. The tragedy that McNickle was talking about wasn't the losses investors suffered, it was the fact that the people companies finally got to participate in their plans will stop participating because they got burned as soon as they got in.

Feb 25 01:37 PM