By Jeff Chang
Although financial industry reports reveal that more and more plan sponsors are offering managed account options, it is not clear that public agency 457(b) and 401(a) plan fiduciaries understand their responsibilities to select and monitor these investment options. Here, we mention a few issues that plan fiduciaries should think about if they are considering this investment option.
What is a managed account option? For this discussion, we are referring to a fee-based, discretionary, personalized asset management program for participants who want their accounts managed for them. And, although these programs offer participants the opportunity to discuss their financial needs and retirement plans with a call center adviser, the actual analysis of and preparation of an appropriate investment allocation and strategy usually is done utilizing a complex algorithm, a so-called “robo-advisor.” Theoretically, one of the main advantages that a managed account option has over a more passive, lower cost, target date fund is that the participant’s investment strategy can be customized to take into account: individual risk tolerance; special circumstances about the participant’s planned retirement; and the participant’s other retirement assets. In most cases, the managed account option, once selected, encompasses the participant’s entire account.
Managed account fees and impact on recordkeeping fees. Because managed account options carry an additional layer of investment advice and related fees, most plans would expect the participant accounts utilizing the managed account option to pay an additional fee above and beyond the cost of a typical target date fund of between 20 and 75 basis points (.20% and .75%). A number of studies have analyzed whether participants have been better off spending the additional fees for a managed account as compared to utilizing a less expensive target date fund. Although the answer is not entirely clear, it appears that the higher degree of participant involvement inherent in managed account option can often have a very positive impact in the overall outcome – one that outweighs the higher fees. Unfortunately, many plan participants do not fully understand how much extra they may be paying for these services and how to get the most value from them.
An important question for plan fiduciaries is “why are they including the managed account option in their investment lineup?” In the public agency retirement space, we are seeing a number of nationally-known recordkeepers offering discounted recordkeeping fees if the plan offers the recordkeeper’s managed account option. There are at least two reasons for this: first, many recordkeepers are capturing additional revenue by using their “affiliates” to serve as the advisor to the managed account option; and, second, practically all managed account options are built from the plan’s other options (which usually include recordkeeper’s proprietary funds) – another way to capture investment assets. If the plan fiduciary is agreeing to offer the recordkeeper’s managed account option as a way of lowering the recordkeeper’s explicit fees, the fiduciary should consider the fact that those who use the managed account option likely are subsidizing part of the recordkeeping fees for those participants who don’t use managed accounts.
Monitoring managed account performance. As we explained before, any fiduciary that offers participant-directed investments is responsible (and potentially liable) for the selection and monitoring of the investment options. If a managed account option is truly a unique investment option, apart from its underlying component funds, it is important for the plan fiduciary to monitor its suitability as an investment option and make sure that participants are not paying unreasonable fees for it. Because of the “black box” nature of many managed account offerings – that is, they seem to make sense and work, but no one explains exactly “how” – we think it is best for the plan fiduciary to rely on its independent investment advisor to evaluate and recommend the use of the managed account option. Many advisors now have the capability to “look behind the curtain” to see how these options are actually performing (relative to target date options) and other appropriate benchmarks.
Undoubtedly, managed account options are becoming more and more visible in the public sector plan space, as they have in the private sector 401(k) space. Public plan fiduciaries considering this option face additional challenges to understand how they work, how they actually perform for participants, and whether they are worth the extra fees.
Jeff Chang is a partner at Best Best & Krieger LLP. He has four decades of experience skillfully evaluating benefit and retirement plan compliance to achieve maximum outcomes for public agency clients throughout California. He can be reached at firstname.lastname@example.org or (916) 329-3685.