Employee Retirement Plans -- Does One Size Really Ever Fit All?
By Morningstar Associates
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We don't expect doctors to treat all patients based solely on age. So why would we develop employee-retirement plans that way? How can a target-date solution that invests everyone with the same retirement date in the same portfolio -- regardless of risk capacity or retirement readiness -- be successful for every employee? The simple answer: For most organizations, it can't. Each employee has an optimal asset allocation based on that individual's goals and unique financial situation.
Managed accounts give employees the ability to personalize their account and how it's invested. They encourage a level of engagement that target-date funds don't: Personalized communications can contribute to an increase in retirement income and a greater savings rate, arguably the most substantial benefit of managed accounts.
Aligning an employee's asset allocation with the average U.S. employee sometimes makes sense, but most employees' financial situations are more complex than that. Even details related to where an employee lives -- such as state taxes, housing costs and market volatility -- should affect a portfolio.
Think about your own financial situation. What information would say something about you that makes you different from the average U.S. employee? Maybe you live in a state with a higher-than-average income tax rate. Perhaps your company provides a better-than-average 401(k) match, or maybe it doesn't match your contribution at all. By incorporating this kind of readily available information about employees, employers can apply a personalized approach to retirement planning -- helping to identify a clear path for each of their employees to prepare for retirement.
How Does Personalization Affect Allocation?
You probably have some things in common with your employees. You live in the same city. Maybe you're of a similar age. Chances are you are significantly different, too. These differences are what contribute to a person's total risk level and influence that individual's target asset allocation.
While some employees may be like the average U.S. investor and fall into the target-date fund's path, most won't. Employees whose allocations fall out of the average may have trouble meeting their retirement goals with options like a target-date fund. The included chart shows how allocations for employees can vary when additional information is used.
But I've Heard . . .
There's a misconception that managed accounts act like target-date funds unless each employee takes the time to submit personal information.
It's true that the more individual information provided, the more customized the recommendations will be. But a significant level of personalization can happen just with the data that the recordkeeper can provide to you -- or to a third-party service.
Learn more about managed accounts and how they compare to target-date funds at http://global.morningstar.com/HelpRetireHRE.
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