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How to succeed in the DC investment-only market

John Hancock Financial Services, Principal Funds, Nationwide, Charles Schwab Investment Management and Wells Fargo have stronger brand presence in the DCIO market than in the broader retail advisory market, partly because they specialize in target date funds and retirement income products.

That and other findings are included in the Retirement Plan Advisor Trends study by Market Strategies International, publisher of Cogent Reports.

The companies mentioned above showed higher brand equity scores in the research firm’s Retirement Plan Advisor Trends study than in the firm’s retail Advisor Brandscape study.   

While John Hancock, Principal and Nationwide respectively rank 13th, 23rd and 28th in brand equity in the mutual fund retail market, they rank in the top 10 among DC advisors. Charles Schwab and Wells Fargo were ranked 26th and 24th, respectively, in brand equity in the retail market but 13th and 15th among DC advisors.

“These five firms are doing an excellent job playing to their strengths and offering competitive solutions for the workplace retirement market,” said Sonia Sharigian, product director at Market Strategies and author of the Retirement Plan Advisor Trends report, in a press release. “[They] are carving out a distinct advantage within the target date funds and retirement income categories.”

The report found that only a few firms are able to differentiate themselves beyond actively managed mutual funds and target date funds to earn broader product consideration.

To produce the Retirement Plan Advisor Trends report, Cogent Reports conducted an online survey of a representative cross section of 514 plan advisors in July through August 2017. Survey participants are required to have an active book of business of at least $5 million and be actively managing DC plans.

© 2017 RIJ Publishing LLC. All rights reserved.

As Bitcoin price soars, TOBAM launches the first Bitcoin mutual fund

TOBAM, the French asset management firm, intends to raise money from institutional investors for Europe’s first mutual fund investing in Bitcoin, according to a report in IPE.com.

The firm, a specialist in smart beta strategies, has developed an in-house team focused on cryptocurrency research. It said cryptocurrencies had “the potential to become durable standards in financial and saving markets.” The market value of a single Bitcoin rose more than 1,000% in dollar terms in the past 12 months, to $8,263 from $748, according to Coindesk.

“The mutual fund’s launch follows approval from the Autorité des Marchés Financiers, one of the country’s top financial regulators,” according to a report in the Financial Times. “PwC will perform auditing services while Caceis, the asset servicing banking group of France-based Crédit Agricole, will custody the bitcoins tied to the fund.”

Bitcoin is a “highly diversifying asset,” said TOBAM president Yves Choueifaty, adding that his company has already conducted research into the digital currency “from a technical, financial, economic and regulatory point of view” for a year. 

The fund is available via private placements into an unregulated alternative investment fund domiciled in France.

Choueifaty told the Financial Times that he expects investors to put as much as $400 million into the institutional Bitcoin mutual fund within the next few years.

In a prepared statement, TOBAM said its fund would allow institutional investors to access the cryptocurrency “in a more convenient and safer vehicle… Bitcoin is prone to significant risks, including a very high level of volatility, [but] it also provides diversification benefits.” 

TOBAM said it had “developed cybersecurity systems” and other capabilities over the past 12 years, including the management of “forks,” which occur when a change or update is made to the algorithm behind Bitcoin.

© 2017 RIJ Publishing LLC. All rights reserved.

 

ICI releases first-half 2017 participant behavior data

Americans continued to save for retirement through defined contribution (DC) plans during the first half of this year, according to the Investment Company Institute’s “Defined Contribution Plan Participants’ Activities, First Half 2017.” 

The study tracks contributions, withdrawals, and other activity, based on DC plan recordkeeper data covering more than 30 million participant accounts in employer-based DC plans.

The latest recordkeeper data indicate that nearly all plan participants continued contributing to their plans in the first half of 2017. Only 1.6% of DC plan participants stopped contributing during this period. 

Other findings include:

  • Most DC plan participants left their asset allocations unchanged. In the first half of 2017, only 6.8% of DC plan participants changed the asset allocation of their account balances, and only 4.3% changed the asset allocation of their contributions.  
  • Withdrawals from DC plans remained low in the first half of 2017, as in 2016. In the first half of 2017, 2.2% of DC plan participants took withdrawals, about the same share as in the first half of 2016. Only 0.9% of DC plan participants took hardship withdrawals during the first half of the year, similar to the first half of 2016.
  • DC plan participants’ loan activity was little changed at the end of the first half of 2017. At the end of June 2017, 16.7% of DC plan participants had loans outstanding, compared with 16.6% at the end of the first quarter of 2017. Loan activity continues to remain higher than at the end of 2008, when 15.3% of DC plan participants had loans outstanding.

© 2017 RIJ Publishing LLC. All rights reserved. 

eMoney Advisor adds integration partners

eMoney Advisor has announced that it plans to integrate with OpenView Gateway, the integration platform from Schwab Advisor Services (including Schwab Advisor Center), Envestnet | Tamarac, and cloud content management leader Box.

The integration with Schwab is planned for the last quarter of 2017. The Envestnet and Box integrations are scheduled to go live in 2018, according to a release this week from eMoney, a unit of Fidelity Investments.

When all three integration are complete, 20 integrations will be available on eMoney’s financial planning platform. Its nearly 50,000 users will be able to “transition between sites, securely accessing shared data and streamlining their planning processes,” the release said.
In the first quarter of 2018, eMoney’s integrations with Envestnet | Tamarac and Box will offer these functions:

  • Envestnet |Tamarac – Investors and their advisors benefit from bi-directional, single sign-on access between both the advisor and client portals of eMoney and Tamarac. 
  • Box – The Box integration meets the criteria required in SEC ruling 17a-4 (aka WORM: Write Once, Read Many) and helps broker-dealers comply with FINRA and SEC rules. Users will be able to access their Box content from the eMoney Vault, allowing the safe transfer of sensitive information. 

eMoney announced in April that the firm will integrate with CapitalRock’s RightBRIDGE product recommendation software in 2018. Earlier this year, eMoney launched integrations with Wealthbox and Black Diamond and enhanced integrations with Orion, Riskalyze, Envestnet and Fidelity Wealthscape.   

© 2017 RIJ Publishing LLC. All rights reserved.

The Ambiguity of Tax Deferral

When you look at your 401(k) or 403(b) or rollover IRA, what do you see? Do you see a two-sleeve account, where you contributed about 80% and the federal government contributed about 20%? Or do you feel like the account contains only your money, with no help from your Uncle Sam?

To economist Steve Zeldes of Columbia University, it’s obvious that Uncle Sam contributed part of your balance. But advisors who manage brokerage IRAs tend to believe that the money is all yours. Similarly, many affluent retirees over age 70½ wonder why the IRS requires them to withdraw three or four percent of their tax-deferred savings each year and pay ordinary income taxes on it. 

Just as there’s more than one way to look at the image that illustrates this article, there may be more than one way to think about tax deferral. Indeed, our national arguments over the Department of Labor’s (DOL) fiduciary rule, the potential “Rothification” of defined contribution plans, and the need for a harmonized DOL-SEC fiduciary rule, may stem from the fact that we don’t all think about it the same way.

An academic view

At the annual academic forum of the Defined Contribution Institutional Investors Association (DCIIA) in New York a few weeks ago, Zeldes presented a research paper he’s been refining for a year or so. The paper (available on SSRN at http://ssrn.com/abstract=3046077 ) asserts that our “Traditional” 401(k) system, in which contributions are tax-deductible today but taxed at withdrawal, leads to a U.S. government subsidy to the private asset management industry of about $13.5 billion relative to a pure Roth system in which all contributions are made with after-tax money and never taxed again.

Zeldes explained that when 401(k) plan participants defer $1,000 a month into their plans, they contribute about $800 and the government contributes about $200. By excluding $1,000 from their gross paycheck, they reduce their tax withholding by about $200 (assuming they are in the 20% tax bracket). The $1,000 contribution to the plan cost them only $800. The other $200 came from Uncle Sam, and results in a boost to the size of the 401(k). But it’s not a permanent boost; the government will collect it back when the participant withdraws the funds later in life and pays taxes on the principal and gains.

When you consider that the asset management industry charges retail (not institutional) fees on the assets purchased with that money, you wind up with a subsidy, reasoned Zeldes and his co-author, Mattia Landoni. They assumed that of the $14.4 trillion in tax-deferred accounts today (excluding defined benefit plans) the government’s contribution is worth about $2.9 trillion.

The two economists then assumed that asset managers and other financial intermediaries charge about 72 basis points (50 bps for investment management and 22 bps for trading costs) a year on that $2.9 trillion and that, as corporations, they pay taxes on profits at the rate of 35%, so that the overall fee would be 0.72% x (1 – .35) = 0.47% or about $13.5 billion a year. Forty-seven basis points, the reasoning went, is perhaps ten times as much as a big institutional investor like Uncle Sam should have to pay.   

“The government could achieve savings equivalent to $13.5 billion per year by forcing the conversion of all existing tax-deferred retirement accounts into Roth accounts,” Zeldes and Landoni wrote in their paper. This $13.5 billion, a cost to the government, is an annual subsidy to the asset management industry.”  

A $200 gain or $800 loss?

The several hundred executives from asset management and related industries listened calmly and impassively to Zeldes’ presentation. Presumably, they do not think of themselves or their industry as partially underwritten by the federal government. No one in the audience seemed to register surprise or offense at the implications of the paper. (Zeldes told RIJ afterwards that it was only a coincidence that he was presenting the paper at the same that Congress was wondering—in the face of massive resistance from the financial services industry—whether to “Rothify” the retirement system by making contributions taxable and withdrawals tax-free.)

It’s possible that few or none of them accepted Zeldes’ assumption that 20% of the money in tax-deferred accounts came from the government. It’s possible that plan participants do not perceive that a benevolent government simultaneously enhances their retirement account by $200 and charges them $200 less in taxes (per $1,000 contribution).

Perhaps plan participants believe that they put $1,000 into their tax-deferred accounts, and that the government took $200 less in taxes in their paychecks—which they spent on groceries and so forth—without enjoying a sense of extra wealth. Perhaps they felt the pain of an $800 drop in their take-home pain without feeling any pleasure that it didn’t drop by $1,000. 

Skin or no skin

Anecdotal evidence suggests that most people regard the money in tax-deferred accounts as theirs and their alone, with no government “skin” in their “game.” This question came up at a conference for asset managers a few years ago, when that industry was excited about capturing rollovers from 401(k) plans. Asset managers looked forward to charging retail fees, rather than the relative lower fees charged in 401(k) plans, on trillions of dollars in rollover assets.

A speaker at the conference asked members of the audience if they saw any difference between qualified money and other money. Only one person raised his hand to answer. “Yes. It’s tax deferred,” he said. Brokerage firms and advisors don’t seem to regard Uncle Sam as a minority partner in brokerage rollover IRAs either.  

An official in a retirement trade group, when asked about this question, saw no government skin in the game either. Describing the difference between a Roth 401(k), a traditional 401(k) and a conventional taxable savings account, he said, “It’s just a matter of whether somebody wants to pay their taxes up front or later.” His view may be based the fact that traditional and Roth accounts produce the same amount of after-tax income in retirement, if the saver has the same tax rate at the time of contribution and the time of withdrawal).

As for retirees who must take taxable required minimum distributions (RMDs) from their 401(k)s or IRAs starting at age 70½, anecdotal evidence suggests that they don’t understand why, if they didn’t need the withdrawal for current expenses, the IRS forces them to take a withdrawal and pay taxes on it.

Even if their tax rate in retirement is lower than their tax rate during their working years, they don’t seem to feel the difference, let alone take pleasure in it. When asked, they don’t appear to recognize that RMDs are the only way that the government can make sure that tax-deferral achieves its public policy goal of producing retirement income.   

In the United Kingdom, the government emphasizes its role in tax-deferred savings. On one government website, a diagram explicitly shows savers that their tax-deferred accounts have three sleeves: their own contributions, Her Majesty’s contribution, and their employers’ contributions. In the U.S., the government makes no similar effort to frame the discussion.

The meaning of tax deferral

You might ask if it matters how we think about tax deferral. I think the consequences run into billions of dollars and years of time spent inefficiently if not wasted.

The huge, expensive, drawn-out conflict over the Department of Labor (DOL) fiduciary rule, and the current debate over “harmonization” of fiduciary standards between the DOL and the SEC, and the fight over whether to Rothify 401(k) were arguably all created, or at least exacerbated, by a failure to agree on the way we think about tax-deferred accounts, and whether the government has a stake in them. 

Brokerages fighting against the fiduciary rule can accuse the DOL of regulatory “overreach” because they don’t believe that there’s government money in rollover IRAs. The DOL can argue that there is government money in those accounts. Or it can argue that the government has an interest in those accounts merely because the accounts remain tax-deferred. That is: the money remains government-subsidized pension money, just as it was in 401(k)s. The DOL can even claim that it has an obligation to regulate it.  

The inability to resolve the difference in our perception of tax deferral is creating delays and indecision not just for the DOL fiduciary rule but also in the current battle over tax reform. If we knew, for instance, whether 401(k) participants actually regard tax deferral as important incentive to save, the debate might have more clarity. Similarly, agreement on the significance of tax deferral might also illuminate the debate over whether there should or shouldn’t be a higher fiduciary standard for brokerage IRAs than for taxable accounts.

Instead of addressing these issues directly and openly, different sides have taken rigid positions without first agreeing on important facts. The facts, unfortunately, can be ambiguous—as in the case of the picture at the top of this article. We could be so engrossed in the ambiguity between the newspaper and the landscape that we don’t realize that we’re looking at a portrait of the famous Abbey St. Michel in Normandy, France.   

© 2017 RIJ Publishing LLC. All rights reserved.

A Debt Straitjacket? Or a Misdiagnosed Disease?

A straitjacket, yes, but debt defines its features poorly. Debt is merely one symptom of a disease that has vastly restricted the ability of developed nations to respond to new needs, emergencies, opportunities, and voter interests. 

The disease: the extraordinary degree to which past policymakers have attempted to control the future—building automatic growth or growing public expectations into existing spending and tax subsidy programs while refusing to collect the corresponding revenues required to pay for them. 

In Dead Men Ruling, I show how this leads to a “decline in fiscal democracy”—the sense by officials and voters alike that they have lost control over their fiscal destiny. Though the degree and nature of the problem varies by type of government and culture, research so far in the U.S. and Germany, two countries with greater fiscal space than most other developed countries, confirms this historic shift.

We must understand how we got here if we ever expect to get a cure, since defining the problem by the debt symptom has led mainly to periodic deficit-cutting that leaves the same long-term bind, frustrating voters and officials alike while increasing the appeal of anarchists and populists.

For most of history, nations with even modest economic growth wore no long-term fiscal straitjacket. Even with the debt levels left at the end of World War II, economic growth led to rising revenues, while most spending grew only through newly legislated programs or features added to programs.

Typically, existing programs were expected to decline in cost, e.g., as a defense need was met or construction was completed. Until recent decades, budget offices did no long-term projection. If they had, they would have revealed massive future surpluses over time even when a current year revealed an excessive deficit. Year-after-year profligacy was still a danger, but it wasn’t built into what in the U.S. is referred to as “current law.”

Today, rising spending expectations are built into the law through features such as retirement benefits that rise with wages, expectations that health care spending will automatically pay for new innovations, and failure to adjust for declining birth rates and the corresponding hit on spending, employment and revenues. At the same time, officials fail to raise the revenues required to meet, much less fund, those laws or voter expectations. 

A rising debt level relative to GDP is merely one symptom. Reduced ability to respond to the next recession or emergency is another, while the increasing share of government spending on consumption and interest crimps programs oriented toward work, investment, saving, human capital formation, and mobility. Politically the chief budget job of elected officials turns from giveaways (to avoid growing surpluses) to takeaways (that renege on what the public believes is promised to them).

Economic populists, fiscal hawks and doves alike, don’t help when their fights over short-run austerity ignore the fundamental long-term disease. The bottom line: flexibility, not merely sustainable debt, is required for any institution—business, household, or government—to thrive. 

The full range of responses given by other economists to the question of debt can be found here

© 2017 The Urban Institute.

The Turmoil inside TIAA

TIAA, as you probably know, was recently the subject of a couple of major man-bites-dog stories in the New York Times. TIAA is the hundred-year-old provider of 403(b) plans to universities, colleges and other non-profit institutions of higher learning. It hasn’t been a non-profit entity itself since 1998. But it still has a cooperative, not a corporate, structure that it touts as non-conflictive with the professors and administrators who participate in its plans.   

Unlike 401(k) firms, it serves multiple plan sponsors, so that teachers can switch colleges without leaving the plan. It is also primarily an annuity provider. Participants can invest in mutual funds through a deferred variable or fixed annuity during the accumulation period. When they retire, they can take income via systematic withdrawals or through a fixed life annuity that offers bonuses when investment returns are good. 

Despite TIAA’s carefully tended reputation for absolute probity, two Times reporters asserted, the company isn’t as free of conflicts-of-interest as it presents itself. In possible violation of the Department of Labor’s best interest rule, the Times said, TIAA has begun incentivizing its financial advisors to steer clients into relatively expensive products.

After the Times stories appeared, RIJ reached out to former TIAA executives about the story. Two were willing to comment on the condition of anonymity. Both thought the Times October 22 story was unfair to TIAA. But they also confirmed many of the points that were made. Their portrait of TIAA differs mainly in its emphasis. They focus on the organizational and financial stresses that TIAA has come under as a result of the maturity of the higher-ed market, the stress of acquiring an asset management firm and a bank, and the heat of competition from giant 401(k) plan providers like Vanguard and Fidelity.

Their answers to our questions can be found below. One is identified as a “former executive,” and another as “the second executive.” They depict a company under pressure on several fronts. A formal response to RIJ from a TIAA spokesperson can be found at the end of the article. (Full disclosure: TIAA is a group subscriber to Retirement Income Journal. My spouse is a TIAA plan participant, and we’ve received financial advice from a TIAA advisor.) 

What about the allegations of conflicted sales practices?

“If what they’re questioning are the sales practices—I was involved in discussions about advisor compensation,” said one former executive. “We agreed: You don’t get paid more money for recommending TIAA products. There’s nothing in the compensation scheme that rewards people for that. We make fund recommendations using a third-party provider. Ibbotson runs the model. There are lots of safeguards. There may have been differential compensation based on the complexity of the transaction, and that [compensation] might have been correlated with certain products. But [we did that] so [the advisors] would be willing to take the time to sell those products.

“If a client says, ‘I want to learn more about managed accounts,’ we will show them. But within those transactions there’s no bias toward TIAA. These are allegations. The Times ignored certain things. [Gregtchen Morgenstern] ot certain facts wrong. She said we opposed the fiduciary rule. We didn’t. There was no lawsuit; there was a whistleblower filing with the SEC. I don’t know what her motivation was. We welcome the regulators coming in. If they find stuff we’ll clean it up. They won’t find a lot. The reporter had a story she wanted to write. I believe TIAA is wearing the white hat here. It might have some dust on it. It has 15,000 employees. We’re not just another profit mongering financial services company. That’s not the company I know.”

“TIAA makes the most money on its annuitization outcome,” a second executive said. “There’s no mystery there. But obviously as they ramped up their individual financial planning enterprise, which now has 850 or 900 planners, there was a question of how those people were compensated. Absolutely, there was a degree of incentive to open managed accounts. But was there as much incentive as you’d see at a wirehouse? No.

“It’s funny that the Times article took that approach—‘TIAA is incentivizing planners to open managed accounts.’ A managed account is actually a good outcome for investors with money. It was a reasoned approach. But that’s not even where TIAA makes the most money. What’s best for TIAA—and for the investor, in my opinion—is their annuitization outcome. They have a strong annuity product. It’s the TIAA equivalent of a defined benefit outcome.”

“TIAA has three silos. There’s asset management, which includes the old TIAA funds plus the Nuveen funds. Then there’s the individual side, which means Everbank, which was another challenging acquisition. That’s a different culture. That’s where the individual planners are. They’re the only people who could put someone in a managed account. The planners see people who have $500,000 or more. People with $50,000 will not get a call from a planner. The third division is the traditional TIAA 403(b) business, which includes hundreds of relationship managers. That group struggles with questions like, ‘What do our fees need to be if Fidelity comes in with much lower fees and TIAA’s costs are higher?’”

Was there a link between the layoffs and the whistle-blower complaint?

“Before 2003, TIAA had never had a layoff,” the second executive said. “They had their first layoff that year and have had them regularly since then. That’s an indicator of how they think about business. [Previous layoffs have had a mix of people from different levels of the company], but one layoff last fall didn’t focus on low-level people. It focused on high-level people. This is pure speculation, but one could make the interpretation that when you lay off high-level people who have incredible knowledge and have made big contributions to the organization, a small percentage of them might be unhappy.

“There’s been a lot of turnover among the advisors in the wealth management business—probably more there than anywhere else in the company. They have had a lot of goals and quotas. TIAA’s core business was trying to retain assets and gather more share of the wallet of participants, but how long can that last? Once you’ve combed through current customers, at some point you have to look elsewhere.

“The layoffs started in earnest in June of 2016. That’s when they really got under way. They ramped up toward the end of last year and have continued. From my vantage point, the layoffs of high-level people peaked toward the early part of this year, and they are still continuing. There were two reasons. TIAA had a substantial amount of right-sizing to do. They recognized it. I don’t think they’re quite there yet. They have more to do. But they’re doing it in a very quiet manner. You won’t read a press release about it.

“Do I see a link between layoffs and whistle-blowing? Yes. That’s the short answer. I put that in the ‘human nature’ category. Anytime you are terminating people, even if you are trying to do it fairly and congenially, you will eventually awaken a sleeping giant or poke the wrong bear. But when it comes time to react you have to react on a bigger scale.

“The company was not the right size to move forward in the interest rate environment that we’re in. Think of it in these terms: Before the election—and by the way there weren’t too many people, especially in Manhattan, who thought Trump was going to win—there were lots of very credible forecasts saying that the 10-year Treasury would be at 2.5% going forward. At the time, TIAA was considering whether they were or weren’t right-sized. But then the ten-year rate keeps going down, and down. Say that you’re an insurer thinking that the 10-year will be 2.5% or even 3%, and you’re considering whether you’re right-sized or not. If it goes down to 1.5% or lower, you know that you’re not even close to being right-sized. A little panic sets in. TIAA may have to lay off a thousand more people. It’s an economic issue.”

“Are there disgruntled people at TIAA?” the first executive said. “Find me a company with 15,000 employees, with five to ten percent turnover every year, that doesn’t have them.” 

What’s the larger context for these accusations?

“There’s a big picture and a little picture,” he added. “The little picture is that employees have leaked internal presentations and talked about pressure to sell and put people into higher-profit products. The big picture is that TIAA used to be a co-op. As a co-op, TIAA traditionally charged every client, regardless of the size, the same amount, with only slight differences. Since everyone got charged the same, it meant that people with high account balances paid more than it cost to maintain those accounts.

“Their cost per dollar invested was higher. It was the same with the institutions. The University of Michigan, with 60,000 employees, is cheaper to serve per person than a small liberal arts college. So you had cross-subsidies. That was so participants could move from one institution to another and still pay the same fees. It was for the good of the whole.

“And for a long time, that was OK. But with the advent of competition from firms like Fidelity and Vanguard, there was pressure to add more products and services. Not too long ago, we didn’t even have a money market account. There started to be pressure to cut deals with big institutions. Fidelity and Vanguard were going after the biggest accounts, and offering to charge them lower prices. Those bigger institutions then came to TIAA and said, ‘We want a better deal.’”

“TIAA struggles with the average cost of servicing a plan,” the second executive said. “They tried to better match the fees with the amount of work that had to be done. In the case of the bigger institutions, which were large enough to have their own CFOs and a team of sophisticated assistants, TIAA didn’t have to work as hard. So they tried to reduce the prices to the large institutions and raise the fees of the smaller ones. At smaller institutions, TIAA was their retirement office, so they involved more work. But there wasn’t as much price-raising as you might expect. The idea was to get more competitive and you don’t get more competitive by raising prices.

“What had also happened was that the higher education business became mature,” the first executive said. “TIAA grew tremendously in the 1980s and 1990s because of changes in the pension law. The real competition in the old days came from the public retirement plans in higher education. For instance, North Carolina might have a state retirement plan for university workers. We competed. A lot of those state plans [closed] and TIAA got a lot of new business. We were an option everywhere outside of California. 

“But then that business became mature. TIAA faced a situation where the core pension business was flat to declining. At the same time, we had a big group of participants who had come into the plan in the 1960s. They were retiring and taking their money out. In the late 1990s we were facing changes in the cooperative structure and a shift in demographics. So TIAA went into new businesses.

“TIAA also wanted to hang onto the business that they have. Our participants typically contributed a total of 10% to 15% of their pay to their 403(b) retirement accounts, if you include employer contributions. The all-in contribution rate to 401(k)s is typically only 7.5%. So there are some high account balances, and competitors looked at them as potential rollovers. So TIAA started a wealth management group to give those [high account-balance participants] more services. It was a defensive move. TIAA doesn’t want money moving to Wall Street. So, combined with these other pressures—the nature of being a co-op and the flattening growth—that’s the big picture.  

“We wanted to start the wealth management business to retain assets and to get more of the [non-TIAA] assets of the people we already served. That’s where you saw the pressure. The core retirement business isn’t growing. They have to cut deals with the big university plans. There was intense competition there. They lost Notre Dame and Stanford. Fidelity took over Stanford. It’s no longer this one-happy-family co-op that it used to be, though there are still vestiges of that.

“As you stop being so much of a co-op, you have to cut prices to your biggest customers and raise prices on smaller customers. They did some of that, but then you need new revenue streams. That would come from managed accounts, the institutional asset management business, and from Nuveen.”

When did the culture at TIAA start to change?

“It started with Herb Allison. He came in from Merrill Lynch in 2001 or 2002. Starting with the top leadership, he brought in a new head of sales, a new head of marketing, new public relations people. There were more outsiders, and that continued under [current CEO] Roger Ferguson [who had been vice chair of the Federal Reserve and was a McKinsey veteran],” the first executive said.

“Now only one of the top senior leadership team is homegrown. They noticed all of the problems I’ve been talking about, and they knew they needed to do something different. You have to understand that TIAA didn’t get big enough to break even until the 1950s. Until then it got infusions from the Carnegie Foundation, which was always there to write another check.

“Unequivocally, the culture has changed. When you’re running a mutual or a not-for-profit for decades and along comes Herb Allison from Merrill Lynch, the culture will definitely change. And they needed some of that change. It had gotten too sleepy. So a lot of that [cultural change] needed to happen. The cultural changes continued under Roger Ferguson, but he’s not like Allison. He’s a McKinsey guy, not a Wall Street guy. The Nuveen acquisition definitely changed the culture, and I don’t think that was all positive. Nuveen had a really different culture. TIAA is still trying to wrap their arms around that.”

“TIAA is a different company than it was four years ago,” the second executive said. “A lot of the cultural change came from the Nuveen acquisition. That absolutely changed the culture of the asset management side at TIAA, and not all for the better. TIAA made those acquisitions because they wanted a bigger asset base. They wanted a cushion against the annuitization business, which was in trouble.”

“We bought Nuveen and Everbank because we thought they were good investments that would generate higher returns on the general account,” the first executive said. “In the case of Everbank, we wanted to be able to serve our clients’ needs up to and through retirement. Part of the reason was to make TIAA relevant to a younger generation and part was to provide in-house services to retirees. On the Nuveen side, we wanted to get assets under management up to scale, to be more profitable, and to provide more investment options. The subsidiaries are for-profit and they will continue to act like for-profit entities. But their profits still get dividend-ed up to the general account.”

TIAA’s response

TIAA’s vice president for media relations, Chad Peterson, sent RIJ the following prepared statement in response to our inquiries:

“Because TIAA does not have public shareholders, all of our earnings are returned to participants or are invested in our business. TIAA focuses exclusively on meeting our clients’ long-term financial needs. We always put our clients first and operate in a highly transparent and ethical way.

“Our financial advisor compensation practices are designed to put our clients first. They are paid a salary plus an annual variable bonus that is not based on the profit any product may deliver. Our advisors do not have product-specific targets.

“Financial advisors rely on a Centralized Advice Group to develop tailored client financial plans. Unlike many other firms, our advisors are not responsible for choosing the underlying funds in managed accounts or any other investment solution. In addition, all recommendations are reviewed by a separate review team to ensure they are appropriate and in the client’s interest. We are transparent about how we compensate our financial advisors. 

“Ninety-five percent of participants responding to surveys agreed/strongly agreed that TIAA’s Wealth Management Advisors considered their interests first, based on our Customer Insights Scorecard as of December 31, 2016.

“[Regarding] our managed account offer: We believe our managed account offer is strong and competitively priced. A team of skilled investment management professionals manages the asset allocation, investment selection, daily portfolio review and rebalancing, as needed. Additionally, all managed account clients have a dedicated advisor who assists with professional oversight. Our offers also take into account tax sensitivities, where appropriate.”

© 2017 RIJ Publishing LLC. All rights reserved.

Wade Pfau’s Latest Book

Wade Pfau wasn’t always a financial prophet, leading a tribe of advisors to the promised land of retirement security. Only a few years ago, he was an unknown Ph.D. from Iowa via Princeton who, while teaching economics in Japan, began analyzing the potential effect of Social Security privatization. In the global ferment over retirement financing, he saw the basis for a career.

Since 2011, Pfau, who is 40, has produced a remarkable body of work on retirement income planning. Through award-winning articles, involvement in the Retirement Income Industry Association, as a professor at The American College, through speaking engagements and a blog, he’s achieved wide recognition, especially for his refinement of existing research on “safe withdrawal” strategies in retirement.

Pfau has a new self-published paperback, the second in a planned series of four books on different facets of retirement planning. (The first book covered reverse mortgages.) The new book’s title (“How Much Can I Spend in Retirement?”) echoes the question that near-retirees or new retirees so frequently ask.

The subtitle, “A Guide to Investment-Based Retirement Income Strategies,” gets to the heart of the matter. This is a handbook for advisors and individuals who want to successfully generate a stable, adequate, lifetime income from a more or less volatile portfolio of stocks, bonds, mutual funds, exchange-traded funds and cash equivalents. It’s also a review of the literature on this topic, including Pfau’s own academic papers.

Annuities are not the focus here. Pfau himself, like many of his academic peers, believes that a combination of investments and income-producing annuities offers the best blend of safety and upside potential for many retirees. But he knows that most advisors and clients still regarded annuities as somewhere between mystifying and radioactive by most advisors and clients; he aims his latest book at no-insurance crowd.   

“This book presents the probability-based approach,” Pfau (below, right) told RIJ in a recent interview that was squeezed between a speaking engagement and a flight home to the Philadelphia area. “It might be better to look at an annuity in retirement. It’s still more efficient to go that route. But if annuities are off the table, here’s what you can do.”Wade Pfau

Pfau’s audience

This book isn’t for beginners. Pfau expects his audience to resemble the people who visit his Retirement Researcher homepage: a mix of financial advisors and sophisticated do-it-yourself investors. They include professionals, engineers and government officials who are nearing retirement. They typically have savings of “a couple of hundred thousand dollars to a couple of million.”

“I tried to write the book from this perspective: ‘You could do all of this on your own. But if you don’t want to put in all the time and energy needed, you might want to use an advisor,’” Pfau told RIJ.

“There may also be the case where one person in the family is sophisticated about financial planning but you want to prevent other members of the family from being left on their own if that person dies. In that case, you also might want to use an advisor. But I tried to provide enough instruction for the do-it-yourself person, if they have some financial sophistication.”

“I tend to speak to advisors who are already thinking about using an integrated approach to retirement income planning. But that’s probably still a small percentage of all advisors. Most people are still purely investment managers. I don’t know what percent is open to both, but it’s probably a small percentage. I get the sense that more people are thinking about it. I spoke at the (National Association of Personal Financial Advisors) this year, and they were more hospitable to annuities than they were when I last spoke there, in 2013. They used to view all commissioned products as bad, now some are saying that they have a purpose.”

Protection without pooling

Pfau’s probabilistic approach isn’t purely risk-based. It doesn’t necessarily mean staying fully invested throughout retirement and taking income only in the form of system withdrawals from a total-return portfolio. Instead, it combines risky assets with common non-insurance risk management methods. These include time-segmentation or “bucketing,” asset-liability matching, diversification, Treasury Inflation-Protected Securities, variable spending, bond ladders, cash reserves, periodic rebalancing and dynamic asset allocation in the face of changes in volatility.

This approach is ultimately based on a buy-and-hold, fundamentally optimistic belief that stocks may be volatile in the short run but they’ll pay off in the long run. It’s a method where the retiree holds onto market risk, to varying degrees, in order not to lose out on market rewards. 

Tax minimization strategies, health care costs, and Social Security claiming strategies don’t receive much attention here. Pfau regards tax liability as a factor that’s too idiosyncratic to include in a broad discussion of retirement investing. He’s saving Social Security for a future book.

What makes Pfau’s work significant is not so much the thoroughness or the specificity of his mathematical calculations—the field of probabilistic retirement income planning is already rife with false precision—but the authoritative attention that he has brought to the problem of spending from an at-risk portfolio in retirement.

Such attention was needed, because surveys show that many near-retirees myopically believe that they can withdraw as much as 10% of their savings in retirement and because most advisors haven’t given the problem of safe withdrawal rates much thought. Pfau has also been vocal in pointing out that, given today’s historically high stock and bond prices, future asset valuations—and any withdrawal rates based on them—are likely to be historically low.

Future books

When asked what brought him to this field of research, Pfau said, “It was a mix of factors. I had the interest in investing. I was always a big saver. With my dissertation in grad school I stumbled into Social Security. Then I simulated the outcomes from the Bush proposal to privatize Social Security, and after that I started looking at the pension systems of other countries. When I started studying for the CFA [Chartered Financial Analyst designation] I came across Bengen’s 4% rule in a footnote. I realized what a hot area this was, and I felt like I had found my niche.”  

Pfau belongs to the small number of quants and academic economists who have succeeded in building marketable personal brands by dint of prolific publishing, ubiquitous public speaking, association with a good university, and successful commercization or monetization of their ideas.

His collaboration with McLean Asset Management, which started in 2012 and became formalized in 2014, marks Pfau’s passage into the commercialization phase. He is a principal and director of retirement research at the registered investment advisor, which was founded in 1984 and is based in McLean, Va., and Bedford, NH. Together they’ve collaborated on the development of the Retirement Income Optimizer framework for income planning. They expect to turn it into software for individuals and advisors.

Pfau’s next book, planned for an October 1, 2018 release, will cover the integration of annuities and investments in retirement income planning. The final book in his series will bring together the best ideas of the previous books, he, along with discussions of tax management and estate planning.    

© 2017 RIJ Publishing LLC. All rights reserved.

The Real Risk to the Global Economy

One of the great mysteries of today’s global markets is their irrepressible enthusiasm, even as the world around them appears on the verge of chaos or collapse. And yet, investors may be more rational than they appear when it comes to pricing in political risks. If investing is foremost about discounting future cash flows, it’s important to focus precisely on what will and will not affect those calculations. The potential crises that may be most dramatic or violent are, ironically, the ones that the market has the easiest time looking through.

Far more dangerous are gradual shifts in international global institutions that upend expectations about how key players will behave. Such shifts may emerge only slowly, but they can fundamentally change the calculus for pricing in risks and potential returns.

Today’s market is easy to explain in terms of fundamental factors: earnings are growing, inflation has been kept at bay, and the global economy appears to be experiencing a broad, synchronized expansion. In October, the International Monetary Fund updated its global outlook to predict that only a handful of small countries will suffer a recession next year. And while the major central banks are planning, or have already begun, to tighten monetary policy, interest rates will remain low for now.

Political crises, however sensational they may be, are not likely to change investors’ economic calculus. Even after the greatest calamities of the twentieth century, markets bounced back fairly quickly. After Japan’s attack on Pearl Harbor, US stock markets fell by 10%, but recovered within six weeks. Similarly, after the terrorist attacks of September 11, 2001, US stocks dropped nearly 12%, but bounced back in a month. After the assassination of President John F. Kennedy, stock prices fell less than 3%, and recovered the next day.

 Yes, each political crisis is different. But through most of them, veteran emerging- markets investor Jens Nystedt notes, market participants can count on a response from policymakers. Central banks and finance ministries will almost always rush to offset rising risk premia by adjusting interest rates or fiscal policies, and investors bid assets back to their pre-crisis values.

Today, a conflict with North Korea over its nuclear and missile programs tops most lists of potential crises. Open warfare or a nuclear incident on the Korean Peninsula would trigger a humanitarian disaster, interrupt trade with South Korea – the world’s 13th largest economy – and send political shockwaves around the world. And yet such a disaster would most likely be brief, and its outcome would be clear almost immediately. The world’s major powers would remain more or less aligned, and future cash flows on most investments would continue undisturbed.

The same can be said of Saudi Arabia, where Crown Prince Mohammed bin Salman just purged the government and security apparatus to consolidate his power. Even if a sudden upheaval in the Kingdom were to transform the balance of power in the Middle East, the country would still want to maintain its exports. And if there were an interruption in global oil flows, it would be cushioned by competing producers and new technologies.

Similarly, a full-scale political or economic collapse in Venezuela would have serious regional implications, and might result in an even deeper humanitarian crisis there. But it would most likely not have any broader, much less systemic, impact on energy and financial markets.

Such scenarios are often in the headlines, so their occurrence is less likely to come as a surprise. But even when a crisis, like a cyber attack or an epidemic, erupts unexpectedly, the ensuing market disruption usually lasts only as long as it takes for investors to reassess discount rates and future profit streams.

By contrast, changes in broadly shared economic assumptions are far more likely to trigger a sell-off, by prompting investors to reassess the likelihood of actually realizing projected cash flows. There might be a dawning awareness among investors that growth rates are slowing, or that central banks have missed the emergence of inflation once again. Or the change might come more suddenly, with, say, the discovery of large pockets of toxic loans that are unlikely to be repaid.

As emerging-market investors well know, political changes can affect economic assumptions. But, again, the risk stems less from unpredictable shocks than from the slow erosion of institutions that investors trust to make an uncertain world more predictable.

For example, investors in Turkey know that the country’s turn away from democracy has distanced it from Europe and introduced new risks for future returns. On the other hand, in Brazil, despite an ongoing corruption scandal that has toppled one president and could topple another, investors recognize that the country’s institutions are working – albeit in their own cumbersome way – and they have priced risks accordingly.

The greatest political risk to global markets today, then, is that the key players shaping investor expectations undergo a fundamental realignment. Most concerning of all is the United States, which is now seeking to carve out a new global role for itself under President Donald Trump.

By withdrawing from international agreements and trying to renegotiate existing trade deals, the US has already become less predictable. Looking ahead, if Trump and future US leaders continue to engage with other countries through zero-sum transactions rather than cooperative institution-building, the world will be unable to muster a joint response to the next period of global market turmoil.

Ultimately, a less reliable US will require a higher discount rate almost everywhere. Unless other economic cycles intervene before investors’ expectations shift, that will be the end of the current market boom.

 Christopher Smart is a senior fellow at the Carnegie Endowment for International Peace and the Mossavar-Rahmani Center for Business at Harvard University’s Kennedy School of Government. 

© 2017 Project Syndicate.

Are 401(k) providers ‘applying’ to top universities?

Are big 401(k) plan providers looking for new business among U.S. colleges and universities? Are big non-profit higher-ed institutions looking for alternatives to TIAA, the long-time leader in that field?

Transamerica, which competes in that space itself, has just released a survey suggesting that such trends are underway. The 403(b) market represents only about one-fifth of the entire private defined contribution market in the U.S., estimated at about $7.5 trillion this year, according to the Investment Company Institute.

According to Transamerica’s 2017 Retirement Plan Trends for Institutions of Higher Education report, which is based on a survey of 249 plan sponsors, there has been a decline of 403(b) plans offered by higher education institutions and an upswing in the popularity of 401(k) plans. [Today’s RIJ feature on TIAA refers to the impact of this trend on that company.]       

“The trend reflects the pressure on higher education institutions to offer the same competitive benefits as corporate businesses if they hope to compete for talent, allowing for a wider choice of retirement plan vendors,” a Transamerica press release said.

If such a trend exists, it might signal a referendum on the desire among plan sponsors for annuities in defined contribution plans, because 401(k) plans generally don’t offer what TIAA does: a life annuity with periodic bonuses. Or it might signal that 401(k) plans are hungry to make up for assets lost to IRA rollovers.

The number of higher education institutions enlisting the services of retirement plan advisors and consultants jumped dramatically in 2016, moving to 41% of plans compared to just 17% in 2015.  Another 24% of institutions say they plan to hire an advisor within the next 12 months. 

© 2017 RIJ Publishing LLC. All rights reserved.

A third of lower-income participants don’t ‘strike their match’

A new survey from MassMutual has found that participants’ contributions to their workplace retirement plan increases with the income and, to a less extent, the gender of the participant. Higher incomes correlated with higher contributions, according to the 2017 MassMutual Retirement Savings & Household Income Study (Savings Study).

The internet-based study polled 1,010 Americans with annual household incomes of between $35,000 and $150,000.

In retirement plans where employers provide matching contributions, participants with higher incomes are much likelier to contribute a higher percentage of their income and to take full advantage of the employer match than participants with lower incomes, MassMutual found. 

Overall, 84% of middle-income Americans (with household incomes of $35,000 to $150,000) whose employer matches contributions to a 401(k) save enough to receive the full match. But only 67% of those earning $35,000 to $45,000 a year contributed that much, while 90% of those earning $75,000 or more did.

Six in 10 study respondents say their employer matches retirement plan contributions, with little variation between income levels. The matches range from 2% of an employee’s salary to 7% or more, with 5% matches being the most prevalent (21%), the study showed.

Non-savers and income

Overall, lower-income workers are twice as likely as higher-income workers to skip saving in their employer’s retirement plan, according to the study. Of those who do not save, income is again a big determinant.  

Seven in 10 respondents with less than $45,000 in household income said they can’t afford to save for retirement compared to 23% of those earning $75,000 or more. Other reasons for not contributing were:

  • Lack of an attractive employer match or no match (23%)
  • A preference to manage retirement savings outside the employer’s plan (14%)
  • Desire to save in a more liquid investment vehicle (14%)

Higher-income savers were also more likely to contribute a higher percentage of their income to a retirement savings plan than those with lesser incomes, the study shows.  Overall, nearly half (43%) of study respondents say they contribute at least 5% and as much as 9% of their income. But those with incomes of $45,000 or more were three times more likely to save 15% or more of their income compared to those earning less than $45,000.

© 2017 RIJ Publishing LLC. All rights reserved.

New crediting strategy for Allianz Life indexed VA

Allianz Life Insurance Company of North America today announced the availability of a new crediting strategy on its Allianz Index Advantage suite of index variable annuities (IVAs). IVA products, whose sales have risen steadily in the past two to three years, offer less downside protection but more upside potential than fixed indexed annuities. Brighthouse, AXA, CUNA Mutual and Voya offer this type of annuity.

Under the new “Index Precision Strategy,” owners of Allianz IVAs can allocate premium to four corresponding equity indexes. When the annual change in the index value is zero or positive, the client will receive the entire annual credit of the “Precision Rate,” which is declared monthly for newly issued contracts, and is subject to change annually.

The Index Precision Strategy also offers a 10% buffer to provide a level of protection from the first 10% of negative index returns annually. Any loss in excess of 10% reduces the contract value, Allianz Life said in a release.

At the end of each contract year, clients can change allocations among one or more of the index strategies, can change indexes within each of the strategies, and have access to a performance lock feature that allows them to capture gains or limit potential losses between index anniversaries.

© 2017 RIJ Publishing LLC. All rights reserved.

Betterment to offer direct online charitable giving

Betterment, the digital advisor, has launched a Charitable Giving service that allows users of the online asset allocation and investment tool to donate appreciated mutual fund shares directly to charities from their Betterment accounts. The service will be available to customers on November 28th, 2017.

According to a Betterment release, clients decide how much to donate and Betterment will fund the gift with the most appreciated shares in their portfolio. Clients get a deduction of the market value of the shares from their taxable income while avoiding a sale that would trigger capital gains taxes. Charities get the full donation, without the friction of intermediary fees.

At launch, Betterment will have several charities for users to donate directly to: The Breast Cancer Research Foundation (BCRF), UNICEF USA, World Wildlife Fund, Feeding America, Big Brothers Big Sisters of NYC, Save the Children, Wounded Warrior Family Support, Hour Children, Against Malaria, DonorsChoose, and GiveWell.

The Betterment release did not describe its Charitable Giving service as a donor-advised fund, which would allow clients to transfer to the fund, get a tax deduction, and later decide which charities to give to. Fidelity Charitable, founded in 1991, granted about $3.5 billion to charities in 2016, according to Fidelity’s website. Vanguard’s Charitable Endowment Program, started in 1997, received $1.3 billion in donations and paid out $704.5 million in grants in 2016, according to GuideStar.

© 2017 RIJ Publishing LLC. All rights reserved.

It’s official: Jackson National VA will feature Vanguard fund options

Jackson National Life this week officially announced the launch of Perspective Advisory II (PAII), a fee-based variable annuity with no surrender charge. The product is designed for registered investment advisors and is the first Jackson variable annuity to offer Vanguard fund options.

The launch was reported in the October 12, 2017 edition of Retirement Income Journal. On September 25, 10 new Vanguard funds became available as investment options across Jackson’s product offerings. 

Perspective Advisory II’s features include:

  • Compensation structure: Advisor compensation is fee-based, rather than commission-based.
  • Product cost: PAII offers institutionally priced subaccounts with no 12b-1 fees, commissions or withdrawal charges.  
  • Surrender period: There is no surrender period and zero withdrawal charges or related waivers.
  • Investment freedom: More than 130 investment options are available.

Product guarantees: Living and death benefits are available for an additional charge.

“Following the release of the U.S. Department of Labor fiduciary rules, we fully recognize the need and demand for fee-based products,” said Brian Sward, senior vice president of Product and Investment Management for Jackson National Life Distributors LLC (JNLD).

“Since entering the fee-based space about a year ago, we’ve formed relationships with new advisors who haven’t traditionally sold our products or done business with Jackson.”

© 2017 RIJ Publishing LLC. All rights reserved.

Hope, Despair: SPARK Forum Has It All

Give President Trump credit for this: There have been no dull retirement industry conferences this fall. By throwing health care policy, retirement policy and tax policy into states of confusion, he has helped boost conference turnout and infused ordinarily dry panel discussions with a blend of hope and despair.

This week, the SPARK Forum, a trade show and retirement industry conference, was held at The Breakers in Palm Beach, FL. SPARK serves the defined contribution recordkeeping community, which includes life insurers, banks, mutual fund companies, third-party administrators, benefits consultants and the information technology vendors that serve them.

There was much political speculation, to be sure. But a bunch of hard news also came out of the conference. Millennium Trust, Paychex and GuidedChoice have introduced a new nationwide workplace IRA program. William Meyer pitched his Social Security-centric income planning tool for plan participants. And BlackRock hinted that it’s been tinkering with a design for target date funds (TDFs) with a deferred annuity sleeve.  

Opportunity from mandates

A fairly significant event in the world of small-plan 401(k)s was announced at the conference. Millennium Trust, a Chicago-area firm that custodies orphaned 401(k) accounts as rollover IRAs, Paychex, the $2.3 billion provider of outsourced payroll, benefits and retirement plan services to small companies, and GuidedChoice, the 401(k) and IRA managed account provider, said they plan to offer SIMPLE IRAs to small companies.

The new venture is a response to the wave of activity in more than 20 states to make workplace savings plans available to the millions of U.S. employees who don’t currently have access to one. California and Oregon are even mandating most employers to start offering a plan or to let workers enroll in a state-sponsored Roth IRA program. (In a reversal of Obama administration policy, the Trump administration is thwarting the creation of state-sponsored workplace IRA programs, which some private sector providers regard as unfair competition.)

A SIMPLE (Savings Incentive Match Plan for Employees) IRA differs from, for instance, a traditional IRA, a SEP (Simplified Employee Pension) IRA or a Roth IRA. At $12,500 ($15,500 for those over age 50), the SIMPLE IRA has a higher limit on tax-deferred contributions than a traditional or SEP-IRA. In contrast to a Roth IRA, contributions to a SIMPLE IRA are taxed on distribution rather than contribution. As in 401(k) plans, SIMPLE IRAs can accept employer matching contributions and employees can be automatically enrolled.  

The rationale for the Millennium-Paychex-GuidedChoice partnership is that if small company owners are forced to offer retirement plans, many will prefer to partner with a familiar name like Paychex than to adopt an untested state-run plan. “The state-run programs are driving the conversation,” said Ken Burtnick, senior product manager at Paychex. “If the state plans weren’t a threat, we’d still be at ‘business as usual.’” Paychex, Millennium Trust and GuidedChoice also think they can underprice the state-run plans. They also think they can compete with Vanguard, a direct seller of SIMPLE IRAs.

Optimizing Social Security

Plan sponsors and their advisors, Social Security expert William Meyer told SPARK attendees, should think about offering software to participants that will help them maximize their Social Security benefits and minimize their taxes during retirement. He gave a presentation on the Social Security claiming strategy software that his company licenses.

Meyer and frequent collaborator William Reichenstein are widely recognized experts and authors on Social Security optimization. With respect to maximizing income in retirement and ensuring that savings last for a lifetime, Meyer eschews the conventional wisdom about safe withdrawal rates or life annuities. He also rejects the rule of thumb that retirees should spend down taxable money, tax-deferred money, and Roth IRA money, in that order.

Instead, he focuses on the benefits of delaying Social Security benefits, using Roth IRA conversions where beneficial, and employing dynamically-adjusted, ultra-tax-efficient decumulation strategies that, as he tries to demonstrate in his presentations, will enable retirees to make their money last up to ten years longer and/or save them hundreds of thousands of dollars.

Although his methods implicitly deliver the most savings to the wealthiest retirees, Meyer says his methods will help people across the wealth spectrum. Because his software is user-friendly enough for the typical plan participant, he said, it will give advice-hungry participants an alternative to leaving their plans and rolling over to an advisor-managed IRA. “If you don’t provide this kind of service, people are going to leave your plan,” Meyer said.

In-plan annuities?

At institutional retirement plan conferences like SPARK, there’s always an obligatory discussion on in-plan annuities. The topic keeps coming up because recordkeepers (10 of the 20 largest are owned by insurers ) would like to reduce the flow of large accounts out of 401(k) plans to rollover IRAs when employees retire.

“Are We Ready for Income Distribution at Retirement?” was the name of the next-to-last panel discussion at the conference. The three panelists were Doug McIntosh from Prudential Retirement, Stacey Ganina of BlackRock Defined Contribution Investment Strategy, and Bransby Whitton, a product strategist at PIMCO. The short answer to the question is “No.”

BlackRock, according to Ganina, has been studying the possibility of creating a version of the firm’s LifePath TDF series that includes a multi-premium deferred income annuity sleeve. Before retirement, participants would gradually move part of their money into the annuity and receive lifelong payments at retirement. But the product is still in the design stage. “It’s not on offer yet,” she told RIJ.

Prudential Retirement has been selling its Income Flex product for ten years, said McIntosh. It’s essentially a variable annuity with a guaranteed lifetime withdrawal benefit (GLWB), but institutionally priced and tied to a Prudential TDF. Ten years before retirement, TDF investors begin paying 100 basis points for an income guarantee that, if switched on during retirement, would provide income for life with liquidity for emergencies. McIntosh said the product has half the in-plan GLWB market and gains a few new plan sponsor clients per year, but Income Flex so far hasn’t fulfilled its initial promise. The financial crisis may have had something to do with that. 

The in-plan annuity concept faces headwinds, and not just because plan sponsors are afraid of getting sued because they picked the wrong life insurance provider. There’s no strong evidence that, except perhaps at Fortune 500 plans, more than a modest percentage of participants leave their companies for retirement—as opposed to leaving for a different job—or that, of those, more than a modest percentages of those who retire have plan balances large enough so that 30% or even 50% would fund a meaningful annuity. In short, there’s no critical mass of participants clamoring for in-plan annuities.

Sizzle switch

The sizzle in the retirement plan business has historically been on the investment side, where selling risk is the agenda. The administrative side of the business, including SPARK’s constituency of technology vendors to the big recordkeepers, has generally been a quieter, less sexy part of the world. It’s a world of long-term relationships rather than hot dates.

But today, the sizzle is moving. Plan sponsors are spending less on investments and more on supporting participants with digitized education efforts. Joe Ready, who runs Wells Fargo Institutional Retirement & Trust, said this stems from the shift to low-cost index investing in plans and the new focus on “financial wellness” and income planning. The economics of the plan business may be turning upside down.

© 2017 RIJ Publishing LLC. All rights reserved.

 

Legal Limbo: Attorneys Await DOL Resolution

Merry L. Mosbacher runs the insurance and annuity business at Edward Jones, a financial services firm with 15,000 advisors. Todd Solash is president of Individual Retirement at AIG, the financial crisis survivor that sold some $7.4 billion worth of annuities in the first half of 2017.

These two influential annuity executives, a distributor and a manufacturer, respectively, probably agree on many issues. But they disagree on at least one: the value of fixed indexed annuities (FIAs) for investors. AIG sells a lot of FIAs, and Solash is bullish. Mosbacher remains unconvinced; there are no FIAs on Ed Jones’ product shelf.

Last Thursday they faced off on the topic, in a friendly way, in front of some 300 securities and insurance attorneys during the American Law Institute–Continuing Legal Education’s 35th annual conference last week at the Capital Hilton in Washingtonon, in a conversation moderated by consulting actuary Tim Pfeifer, president of Pfeifer Advisory.

The indexed annuity market is, of courrse, in regulatory limbo. The Trump administration has at least temporarily stopped the implementation of parts of the Obama Department of Labor’s “fiduciary rule” that would make it harder to sell variable and indexed annuities to IRA clients for a commission. The rule, in its current form, would also create the potential for a wave of class action lawsuits against the financial industry.

But it’s still unclear if that postponement will end in seven weeks, on January 1, 2018, or last until July 1, 2019, as the Trump DOL has proposed. A pending review of the proposal by the Office of Management and Budget will help determine that.

‘Manufacturered’ return

Over the past five years or so, indexed annuities have been, from a pure sales perspective, the brightest spot in the annuity firmament. Their commissions make advisors want to sell them and their value proposition—more upside than bonds with zero risk to principal—has found an audience. But they’re likely to remain a niche product until they win over the Merry Mosbachers of the world.  

 “We don’t offer any equity derivatives,” Mosbacher said, referring to the options that drive FIA returns. “It’s a manufactured return, and we have problems with that as a source of return for our type of customer. It’s not aligned with what we think our clients need. With the indexed products, the sales message often goes: In a period low interest rates, you get the upside of the equity market but not the downside. That’s what customers hear. 

“We want our clients to understand the risks of what they buy. The indexed annuity is nothing more than a floating-rate fixed deferred annuity with a yield of up to four percent. Is it worth it to take that kind of risk? We haven’t been able to get the math to work out where the answer is ‘Yes.’ And when we ask the carriers about it, no one has been able to prove that they’ll get a higher return on an indexed annuity than they will on a fixed.

“We’ve been paying a lot of attention to the fee-based variable annuities. We’re not offering them now, but we recognized that we’re all going to a fee-based world. That trend was only accelerated by the DOL rule. We don’t like today’s fee-based products. It would be a cost increase for our clients to strip out the commission and put them in a fee-based product.”

But AIG’s Solash, a former AXA executive, claimed that indexed annuities meet certain needs that other financial products don’t. “AIG is in all of these businesses—variable, indexed and fixed annuities—and we’re unique in that respect. It lets us adapt to market changes and changing client needs. The indexed annuity’s message—you get a floor of zero losses but also equity exposure—is a powerful one. That’s a product that should have its time. It gives investors a different spot on the efficient frontier, a different outcome.

“We have a real demographic problem and a real public need [with regard to retirement financing], and we shouldn’t make it hard to sell these products. That’s why some of the regulation is detrimental. If annuities are too hard to sell, then products won’t get talked about at all. We think that’s a big problem for clients. They need protection.

“It’s a interesting time. There’s never been a time with so much convergence and confusion. It’s very much mix-and-match. As manufacturers we actually provide very specific risk-appetite and risk/reward combinations, but it’s hard on us. The world is built around fixed silos. Things are mixing in ways that are positive. But it’s difficult for all of in the ecosystem.”

Lingering uncertainty

Last week ended on a note of relief for the defined contribution industry, with House Majority Leader Paul Ryan announcing that the Republican tax proposal would not shrink tax deferral for retirement savings to offset the 10-year, $1.5 trillion tax cut he hopes to push through the Senate and onto the president’s desk. But the lawyers who gathered for the ALI-CLE conference on securities and insurance law still had lots of shop to talk. 

There were several items of general retirement-industry interest that came up during this admittedly specialized conference for a specialized segment of the legal community. Tim Pfeifer, a consulting actuary, offered a roundup of recent developments across the deferred and immediate annuity landscape.

LTCI-annuity hybrids. “There’s a lot of pent-up interest in adding long-term care insurance features to annuities,” he said, with declared rate fixed annuities the most likely vehicle. “That’s been causing a bit of a stir, with several companies thinking about offering them.”

Fewer FIAs with living benefits. “There’s a reduced focus on adding guaranteed lifetime withdrawal benefits to indexed annuities. Although GLWBs were once a prime driver of FIA sales, that importance has declined in the last three years. About 50% of FIA sales involves a GLWB rider, but that figure used to be as high as 65% or 70%.”

Deferred income annuities. “Companies are now looking at DIAs as possibly having an indexed feature. When income begins, it would have an indexed growth component,” Pfeifer said. That could help perk up DIA sales, which slipped early in 2017 before flattening out. Companies see the index-linked DIA as a potential competition for variable annuities with GLWBs, SPIAs and conventional DIAs. Issuers—Nationwide may be one—are also looking for ways to add liquidity features to DIAs to ease contract owners’ fears about irrevocability.

FIA commissions. “The average commission on an FIA used to be about 8%. That figure is now around 5%,” he said. If that’s true, then VAs now offer the highest commission, at about 7%.  Pfeifer attributed the decline in FIA commissions to the DOL fiduciary rule as well as to the increase in sales of FIAs at brokerage firms, where they come under FINRA scrutiny.

Impaired life annuities. “We’ve seen one company using substandard annuities for long-term care needs.” For people who are not in good enough health to qualify for long-term care insurance, “substandard” annuities (aka “medically underwritten” or “impaired” annuities) offer a way to maximize future income to cover medical costs. [Anecdotally, one insurer offered the SPIA pay rates for a 70-year-old to a 64-year-old policyholder in poor health.) 

ILVAs. Pfeifer noted the growing success of indexed-linked variable annuities (ILVA), which are also known as structured variable annuities. Voya will introduce its Ascend ILVA in early 2018; it will join Allianz Life, AXA, Brighthouse (formerly MetLife), and Members & Investments (a unit of CUNA Mutual Group) in that space. ILVAs are classified as securities because, unlike FIAs, they can result in loss of principal. 

© 2017 RIJ Publishing LLC. All rights reserved.

Lessons from Tax Reform School

Do you want to know why tax reform is so hard? Consider one seemingly simple idea that has been floated by President Trump and congressional Republicans in their Unified Framework: Roughly doubling the standard deduction.

The closer you look at this proposal, the more you see how complicated it is.

Is doubling the standard deduction a good idea? Well, maybe. By granting more taxpayers a larger reduction in taxable income without making them itemize a list of specific deductible expenses, boosting the standard deduction can substantially simplify the tax filing process. It would also reduce taxes for some middle-income households.

But… It costs money. The Framework would partially offset the expense by eliminating the personal exemption.

But… Exchanging a larger standard deduction for repeal of the personal exemption raises the relative burden of taxes on households with children.

But… The Framework attempts to offset the elimination of personal exemption with a bigger child credit. That might help reduce some of the higher taxes caused by repealing the personal exemption.

But… These adjustments cost revenue and so would reduce the amount of rate reduction that Congress can pay for.

And… The share of households (including non-filers) that itemize with the larger proposed standard deduction would be reduced, perhaps to as little as 5%, depending upon what happens to specific deductions.

But… If Congress reduces the number of itemizers, it would also reduce the number of people who’d take deductions for charitable giving, home mortgage interest and state and local taxes paid. That, in turn, has charities, homebuilders and state and local government officials worried.

And… Retaining tax incentives only for the highest income households makes zero sense for provisions meant to encourage families to own homes or give to charity.

But… Congress could create alternative subsidies for charitable donors, homebuilders and state and local governments.

But… That could cost more foregone revenue and reduce the size of any tax rate reduction that could be paid for.

And, whoops… So far, we’ve pretty much forgotten about the poor and moderate-income taxpayers who would benefit little or not at all by an increase in the standard deduction.

But… To help them requires yet more money and reduces the amount of rate reduction that can be financed in a tax reform package.

Thus, each decision on each individual change not only causes new interactions affecting the amount of revenue other provisions in a bill would gain or lose, but it alters the distribution of winners and losers among individuals and industries that also must be addressed.

And… These are some of the effects of only one simple reform. Now, think of what Congress and the President must tackle in a bill that revises the taxation of capital and labor, multinational corporations and partnerships, pensions and insurance.

And… You will get some inkling of why, as the president might say, “nobody knew” tax reform would be so hard. 

© 2017 The Urban Institute. 

‘Auto-portability’ undergoes its first test

America is littered with small, “stranded” 401(k) accounts. Most are worth less than $1,000. Many of these abandoned purses have been converted to rollover IRAs and warehoused at trust companies. Sometimes they’re reunited with their owners, sometimes not. Collectively, they represent a significant business opportunity.

As previously reported in RIJ, Retirement Clearinghouse (RCH), a Charlotte, NC-based company, has been trying to jump-start the adoption of an electronic network—driven by proprietary “auto-portability” technology—to transfer these accounts from IRA warehouses automatically and roll them into their owners’ next 401(k) plan.

From July to October 2017, RCH tested the feasibility of auto-portability in a large North Carolina healthcare company’s 401(k) plan. About 400 of 3,000 former participants gave RCH permission to roll their safe harbor IRA balances into their active 401(k) plan accounts, according to a newly-published evaluation of the pilot program by Boston Research Technologies, a consulting firm working with RCH.  

RCH claims that auto-portability can help staunch the “leakage” of savings from 401(k) plans that often occurs during job transitions. Many people, especially low-income or minority workers with brief job tenures, often forget about old 401(k) accounts or cash them out and spend the money between jobs. If their money moved automatically to their next plan, RCH contends, they wouldn’t be tempted to spend it; over a career, they’d be more likely to accumulate enough savings to retire on.

To make auto-portability a success, according to RCH, a critical mass of large 401(k) recordkeepers—Vanguard, Fidelity and T. Rowe Price fit that description—would need to embrace it. Just as important, the Department of Labor would need to allow plan sponsors to auto-enroll participants in the roll-in program when they join their retirement plans.    

Auto-portability relies on technology similar to that used by credit card companies to validate and fulfill transactions. It involves four processes: an electronic-record location search to identify multiple accounts potentially belonging to the same individual; a proprietary “match” algorithm to confirm the located accounts belong to the same participant; receipt of the participant’s affirmative consent to consolidate accounts in their active retirement plan account; and an automated roll-in transaction. 

The new report, “Making the Right Choice the Easiest Choice: Eliminating Friction and Leaks in America’s Defined Contribution System,” evaluates on RCH’s North Carolina demonstration project. It was released this week by Warren Cormier, founder and CEO of Boston Research Technologies. Cormier is also involved with the National Association of Retirement Plan Participants’ recent launch of a workplace IRA program called Icon.  

In its study of the RCH pilot, Boston Research Technologies collected and analyzed data from more than 3,000 participants who had both a safe harbor IRA and an active plan account with their current employer. It found that:

  • 15% of participants with matched accounts responded to the roll-in offer, a rate higher than direct mail solicitation and an indication of pent-up demand.
  • 91% of the responding participants consented to the transaction and had their savings consolidated in their active-employer plan.
  • 9% of participants opted out of the program, with a majority cashing out their accounts.
  • Of the account balances that were consolidated through a roll-in, 56% were less than $1,000—a suggestion that, when given the choice, most participants will retain these balances and not want to cash out, the report said.
  • Upon consolidation, workers’ median plan account balance increased by 46% and the combined future value of their preserved savings was projected to be more than $3 million at normal retirement age.
  • 85% of participants with matched accounts did not respond to the roll-in offer, but their lack of response was “likely the result of self-destructive behavior or lack of knowledge about where to start rather than a preference to cash out,” Cormier’s report said.
  • 90% of accountholders with stranded accounts worth less than $5,000 opted to roll their assets into a safe harbor IRA—but of those accountholders, 86% had been in a safe harbor IRA for more than one year, and 44% were in a safe harbor IRA for more than three years. 

 “Auto-portability helps participants overcome the structural frictions embedded in the consolidation process, making the decision to roll in as easy as the decision to cash out,” said Cormier, in the release. “A mechanism is needed to surmount the remaining cognitive frictions, such as procrastination, hesitation, and indecision.

“The utilization of a negative consent mechanism would lead to the preservation of billions of dollars in retirement savings that are currently being cashed out by participants at alarmingly high rates.”

Boston Research Technologies publications include the 2013 report “Eliminating Friction and Leakage in America’s Defined Contribution System” and the 2015 study “Portability and The Mobile Workforce.” 

RCH was formerly known as Rollover Systems. The founder, president and CEO of RCH is Spencer Williams, an executive formerly with MassMutual. He and Tom Johnson, another former MassMutual executive, have spent several years promoting auto-portability to 401(k) recordkeepers, plan sponsors and Washington officials.

The owner of RCH is Robert Johnson, the Charlotte businessman who created and later sold Black Entertainment Television to Viacom in 2000 for more than $2.3 billion in Viacom stock.

© 2017 RIJ Publishing LLC. All rights reserved.