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Betterment adds socially-responsible portfolio option

Posted on July 20, 2017 by -

Betterment, the $9.6 billion digital advisory platform, now offers its 270,000 online clients a socially responsible investing (SRI) portfolio strategy that invests in companies that foster “inclusive workplaces or work toward environmental sustainability” while avoiding those with poor labor practices or that damage the environment.

The SRI portfolio reflects a 42% improvement in social responsibility scores (relative to the Betterment portfolio) on US large cap assets. The improvement came from substituting iShares DSI—a broad US ESG stock market ETF—for the portfolio’s U.S. large cap exposures. An additional ETF, iShares KLD, will serve as the secondary ticker for DSI.

All other SRI portfolio asset classes match Betterment’s existing portfolio because an acceptable alternative doesn’t yet exist or because the existing alternatives have high fees or liquidity limitations.  Betterment plans to add new SRI funds as they become available. The SRI portfolios are also eligible for Betterment’s tax-loss harvesting and tax-coordinated portfolios services.

© 2017 RIJ Publishing LLC. All rights reserved.

1Q2017 bank annuity fee income up 4.2% from 1Q2016

Posted on July 7, 2017 by -

Income earned from the sale of annuities by large bank holding companies in first quarter 2017 rose 4.2%, to $788.5 million, from $756.6 million in first quarter 2016, according to Michael White Associates (MWA), which compiled the findings.

The findings are based on data from all 5,856 commercial banks, savings banks and savings associations (thrifts), and 624 large top-tier bank holding and thrift holding companies (collectively, BHCs) with consolidated assets greater than $1 billion operating on March 31, 2017. Several BHCs that are historically insurance companies are excluded from the report.

Of 624 BHCs, 280 or 44.9% participated in annuity sales activities during first quarter 2017. Their $788.5 million in annuity commissions and fees constituted 35.1% of total BHC insurance sales volume (i.e., the sum of annuity and insurance brokerage fee income) of $2.24 billion.

1Q2107 bank annuity fee income

Of 5,856 banks and thrifts, 762 or 13.0% participated in first-quarter annuity sales activities. Those participating banks and thrifts earned $189.8 million in annuity commissions, or 24.1% of the banking industry’s total annuity fee income. The annuity production of banks and thrifts fell 9.2% from $209.1 million in first quarter 2016.

Over two-thirds (67.6%) of BHCs with over $10 billion in assets earned $762.1 million in first-quarter 2017 annuity commissions, an amount equal to 96.6% of total annuity commissions reported by the banking industry, up 6.2% from the $717.9 million in annuity fee income earned in first quarter 2016.

Among this over $10 billion asset class, annuity commissions made up 37.6% of their total insurance-product sales revenue of $2.03 billion in first quarter 2017. Wells Fargo & Company (CA), Morgan Stanley (NY), UBS Americas Holding (NY), JPMorgan Chase & Co. (NY), and Citigroup Inc. (NY) led all bank holding companies in annuity commission income.

BHCs with assets between $1 billion and $10 billion recorded a 32.0% fall in first quarter to $26.4 million in annuity fee income, down from $38.8 million in first quarter 2016. These annuity earnings accounted for 12.2% of their total insurance sales income of $216.6 million. Among BHCs with between $1 billion and $10 billion in assets, leaders included First Command Financial Services, Inc. (TX), Wesbanco, Inc. (WV), United Financial Bancorp, Inc. (CT), First Commonwealth Financial Corporation (PA), and NBT Bancorp Inc. (NY).

The smallest banks and thrifts, those with assets under $1 billion, act as “proxies” for the smallest BHCs, which are not required to report annuity fee income. These banks generated $12.2 million in first quarter annuity commissions, a 20.4% drop from $15.4 million in first quarter 2016.

Less than 10% (9.4%) of banks this size engaged in annuity sales activities, the lowest participation rate among all asset classes. Among these banks, annuity commissions constituted the smallest proportion (16.1%) of total insurance sales volume of $75.9 million.

Leaders among these bank proxies for small BHCs were The Citizens National Bank of Bluffton (OH), First Federal Bank of Louisiana (LA), Bank Midwest (IA), Thumb National Bank and Trust Company (MI), First State Bank (NE), FNB Bank, N.A. (PA), Bank of Clarke County (VA), Heritage Bank USA, Inc. (KY), First Columbia Bank & Trust (PA), and First Neighbor Bank, N.A. (IL).

Among the top 50 BHCs nationally in annuity concentration (i.e., annuity fee income as a percent of noninterest income), the median Annuity Concentration Ratio was 4.9% in first quarter 2017. Among the top 50 small banks and thrifts in annuity concentration that are serving as proxies for small BHCs, the median Annuity Concentration Ratio was 12.8% of noninterest income.

© 2017 Michael White Associates. Used by permission.

Honorable Mention

Posted on July 7, 2017 by -

Former pro footballers receive advice from Northwestern Mutual

Two Northwestern Mutual advisors will be the exclusive Wealth Management Advisors of the National Football League (NFL) Alumni Association, according to an announcement last week by Pro Football Legends, the commercial marketing arm of the association.

The advisors, Stephen Schwartz, CFP, AEP, and Michael Schwartz, CFP, AEP, are brothers. Michael advised current and former players, coaches and employees and their families since March 2016. He is now joined by Stephen.

Members of the NFL Alumni Association can receive a free comprehensive consultation from one of the Northwestern Mutual advisors. Services life insurance, long term care planning, retirement planning, investment strategies and estate planning.  

“As players transition to new careers and plan for their futures after their playing days have concluded, maintaining financial stability can be difficult,” said Elvis Gooden, President and CEO of NFL Alumni, in a release.

“Enhancing financial security for NFL Alumni members and their families is an important goal which can be accomplished through developing and tailoring both offensive and defensive individualized financial game plans.” 

Robo plus human beats either alone: Milliman

An “iterative process of advanced computing and human input” can be better at risk management than either machine algorithms or humans alone, according to a new study examining multi-criteria decision-making by Milliman Inc.

“While not obvious at the outset, combining human input with advanced computer modeling allows domain experts to analyze results and elicit insights into features that subsequent iterations of a model should contain, thereby refining the process,” said Neil Cantle, principal in Milliman’s London office.

The results of the Milliman study suggested a number of practical applications for insurance enterprise risk management (ERM), including finding patterns in the key risks that drive capital losses and understanding diversification in order to enable “quick judgments about the similarities and differences in the risk profiles of different portfolio elements,” according to Milliman.

When faced with “multiple objectives and multiple constraints,” “visualization and complex systems-mining techniques” plus “expert input” can solve problems that “machine algorithms” have difficulty solving, Milliman’s release said.

Milliman’s Corey Grigg said, “Looking toward the future, this sort of optimization technique can extend to big data, simulations, and enhanced visualization, ensuring that even as the complexity of our data and problems increases, experts can continue to add value.”

Milliman’s study employed the DACORD platform from DRTS, Ltd. to support its system-mining efforts. It was conducted in conjunction with Dr. Lucy Allan of University of Sheffield.  

“Future states are unknown, involve human affairs and are therefore complex,” said Jeff Allan, CEO of DRTS, Ltd. “Augmenting experts with the appropriate tools and processes can aid the reasoning and evaluation of a range of solutions.”

Bill Harmon to lead Voya’s 401k business

Bill Harmon has joined Voya Financial as its new president of Retirement Corporate 401(k), effective June 30. He will join CEO of Retirement Charlie Nelson’s leadership team, as well as Voya’s Operating Committee, a Voya release said.

Harmon will oversee all aspects of the Corporate 401(k) business, including sales, relationship management and strategy for all segments of the market, from small- and mid-sized companies to jumbo plans. 

Harmon spent 29 years in the U.S. retirement business of Great-West Lifeco, which is now called Empower. Before joining Voya, he was senior vice president, Core Markets for Empower Retirement.  

Harmon holds a bachelor’s degree in Marketing from Loyola Marymount University in Los Angeles. Voya serves approximately 47,000 plan sponsor clients and more than 4.5 million individual retirement plan investors. Voya also operates a leading broker-dealer.   

© 2017 RIJ Publishing LLC. All rights reserved.

A High-Tech Challenge for High-Touch Advisors

Posted on July 6, 2017 by -

Technology vendors with new digital tools—“inorganic intelligence,” as one consultant calls them—are pitching their wares to wealth management firms these days with unprecedented zeal. Almost daily, a firm like Envestnet, Broadridge, FIS or Wealth2k unveils a digital or web-based solution for wirehouses, brokerages or boutique advisory firms.    

Wealth managers are listening more closely (and more humbly) than they used to—and for good reason. Their cushy empire is under siege. The 401(k) revolution has gradually produced an unprecedented army of mid-sized investors, many now retiring. This army is now overwhelming a shrinking pool of advisors, and bringing the compliance standards, low costs and automated investment practices of the 401(k) world with them.

But many wealth managers, by all accounts, aren’t sure which technologies to acquire in response. For the moment, they’re shopping for solutions that will help them document their processes for complying with the fiduciary rule. Beyond that, they are said to be more or less unsure about which aspects of their businesses to automate or which slices of the wealth market they should pursue, defend, or relinquish.      

“We’re talking about wealth managers changing the way they do business, not just which technology products they buy,” Alois Pirker, Research Director of Aite Group’s Wealth Management practice, told RIJ this week. “The era when the business guys and the tech guys had separate problems is over. Most business model decisions today have technology implications and vice-versa.”

“There’s a gun pointed at the head of the advisory business, held there by government-mandated compliance directives and rapidly advancing fintech,” said David Macchia, founder and CEO of Wealth2k, which began marketing web-based solutions to advisors more than a decade ago.

“This combination creates commoditization of advice, products and advisors themselves,” he added. “This is the supreme challenge to the entire wealth management industry. My sense is that wealth management firms have been hyper-focused on compliance-driven technology spending that’s directly related to their perceived obligations under the Department of Labor fiduciary rule. But they don’t know, in general, what the next best move is.”

The Broadridge view

These are busy times for technology vendors. A few weeks ago, Broadridge, the 10-year-old spinoff from Automated Data Processing (ADP), issued a white paper urging wealth managers to automate. Broadridge has jumped on the digital opportunity. The once-quiet white-label communications firm now offers client-engagement, compliance and trading automation tools.   

Broadridge uses a novel term—“inorganic intelligence”—to describe what wealth managers need to leverage. The term encompasses “artificial intelligence, natural language processing, machine learning, complex event processing, cognitive computing” as well as behavior analysis tools, virtual assistants, chat-bots and predictive analytics.

These tools, Broadridge and other technology firms believe, will help wealth managers deal with the DOL fiduciary rule, financial advisor retention, competition from robos, the need to pivot toward Millennials, the tyranny of the smartphone and cyber-security.

“At Broadridge, we’re asking, ‘How can we help advisors use technology for relationship initiation and acceleration? How can we turn a two-dimensional investor into a real person?’” said Traci Mabrey, head of Wealth Solutions at Broadridge.  

“This is about personalization of the investor base, about maintaining ‘high-touch’ world. With tech at their fingertips, advisors can focus on the business of financial advice and the intangible element of trust. We’re hearing that the primary goal-set is around the ‘digital engagement strategies,’ a hybrid between the personal and the digital. As a fintech provider, that’s where we think the excitement is.”

The FIS view

FIS, the Fortune 500 financial software firm, recently announced a partnership with Trizic to deliver a pre-fab robo solution to banks and credit unions. The partnership is intended “to increase advisors’ ability to provide investment advice to Millennials and tech-savvy high net worth clients more profitably,” according to an FIS release.

The Trizic technology, which is part of the existing FIS wealth management platform for financial institutions, “automates the full advisor workflow from onboarding and risk tolerance to portfolio construction, reporting and billing. It also gives a complete digital advice solution to banks and other financial institutions without a wealth division.”

“Wealth managers at every type of institution are struggling to attract the lower balance, emerging wealth from Millennials,” said Will Trout, a senior analyst at Celent. “Some form of automation is required to cost-effectively service smaller-balance accounts.

“Bank wealth managers are using robo as part of the broader refinement of their segmentation/client optimization strategies. They want to hook younger people onto their investment platforms and activate dormant customers from within their wealth management units and other parts of the bank.

“The gains in fee income are expected to offset any cannibalization from their high-touch wealth advisory services. It’s an efficiency play aimed at reducing costs. But it has the parallel objective of growing the business over time,” Trout added.

“Within the institutions, robo will be a bottom-up phenomenon,” he added, meaning that advisors want internal digital support, especially to serve lower-value clients, as much as retail investors want digital interfaces with the banks.”  

The 80/20 rule

All wealth managers face the Pareto principle, which states that 80% of a company’s revenue from 20% of its customers. In that sense, all of them face the problem of serving the smaller clients efficiently.

“A private banker at one of the most profitable banks told me that 40% of his investment portfolios aren’t profitable. That is, 40% of accounts are too small to pay for themselves,” Aite’s Pirker said, adding that the bank still isn’t sure what to do about it.     

At the same time, each wealth management firm has unique traditions and perceived obligations. “Take Merrill Lynch and Morgan Stanley, for instance. Merrill Lynch is part of the bigger Bank of America empire, and it has to come up with something for the middle market. It can’t say, ‘We don’t care about people with less than $1 million,’” Pirker said.

“Morgan Stanley, however, might be able to say—though I haven’t heard them say this—we’re just going to serve the high net worth.” Some companies have already decided what they will do. “Look at Goldman Sachs, which has made moves toward the wider market,” he added.

It can be risky, but there’s potentially a lot of money to be made by extending a luxury brand into the middle-market, Pirker noted. “Those firms that bring a high-end wealth management brand to the mass-affluent marketplace are the ones that will ultimately harness the competitive advantages of these innovative platforms,” he said.  

Whither or wither

Lots of questions remain. Before they can shop for digital tools, wealth managers have to decide what they want. To upgrade their front, middle or back offices? To make more sophisticated strategic decisions? To give clients a faster, cheaper, and simpler experience? To pursue or abandon the mass-affluent market? To analyze big data and refine their marketing? To control advisor conduct? To master the world of mobile?

It’s an awesome challenge. “Big firms have deep pockets and can sort themselves out eventually. But you also need a willingness to change,” Pirker said. “Some are better at that than others. It’s a Netflix-versus-Blockbuster moment. And while financial assets are stickier than video rentals, technology is going to take its course.”

© 2017 RIJ Publishing LLC. All rights reserved.

The Pleasant Inflation Surprise — Will It Last?

Posted on July 6, 2017 by -

At midyear it is useful to reflect on how the economy and inflation are tracking relative to what had been expected at the end of last year. The biggest surprise, for us, is that the inflation rate did not accelerate in the first half of this year.

What’s going on? Should the Fed postpone further rate hikes until the inflation rate begins to climb?

We believe that the failure of the inflation to climb is attributable to two separate one-­off events the positive impact of which will prove to be transitory. As a result, the Fed is justified in continuing on its path of gradual increases in the funds rate.

In our year-ahead forecast in December we projected that the “core” inflation rate (i.e., excluding volatile food and energy prices), would rise to 2.7% in 2017 from 2.3% in 2016. The labor market was tight which seemed likely to push wages higher and lift inflation in the process. The shortage of available homes and apartments was steadily lifting rents at a 3.5% pace. And the cost of medical care was surging.

Instead, the core rate has backtracked and actually slowed to 1.7% in the first five months of this year. Two factors are largely responsible for this surprising behavior.

First, a price war has broken out amongst the nation’s wireless providers and in the past year cell phone prices have plunged 12.5%. A drop of that magnitude has shaved 0.2% off the core inflation rate during that period of time. Mobile phone prices have fallen for eleven months in a row, capped by a whopping 7.0% decline in March alone.  The core rate today would be 1.9% rather than 1.7% in the absence of the cell phone price war.

Competition in this industry will get even more intense now that the federal government has auctioned off rights to more wireless spectrum to new entrants such as television providers Comcast and the Dish Network. Spectrum, or airwaves, is what these companies use to deliver wireless calls. 

The price wars began in April of last year when major carriers such as AT&T, Sprint and T-Mobile slashed rates on their unlimited calling plans. The nation’s largest provider, Verizon, joined the fray earlier this year. The last time this happened was in 1999-2000.  Eventually the price wars ended and prices stabilized for more than a decade. Thus, the current drop in cell phone prices will be transitory.

At the same time, prescription drug prices have declined since the election. In October of last year, prior to the election, prices were rising at a 7.0% pace. Since the election prescription drug prices have fallen at a 1.0% rate. The chart below tracks the year-over-year change in this series so the most recent price declines are not fully reflected. 

During the election campaign Trump promised to drive down drug prices. He talked about allowing consumers to import prescription drug medicines from abroad, and having Medicare negotiate prices directly with pharmaceutical companies. His success thus far seems to stem less from legislation than fear of being called out by the president for price gouging. 

Last year EpiPen maker Mylan and Valeant Pharmaceuticals experienced public outrage over dramatic price increases. A Trump tweet could in a nanosecond put a company in his crosshairs with potentially damaging consequences to both its reputation and stock price. One may not approve of the method, but intimidation seems to be accomplishing his objective.

So what does the Fed do now?  We believe it will view these recent price declines as temporary and continue on its slow but steady trajectory toward higher interest rates.  Remember, Fed policy is determined not only by inflation but also by the pace of economic activity as well.

The economy seems to be gathering momentum. After stumbling to a 1.4% pace in the first quarter, GDP growth seems poised to rebound to a 2.5% pace in the second quarter with a similar rate likely in the second half of the year. GDP growth in Europe and Asia seems to be quickening as well. The unemployment rate has dipped from 4.7% at the end of last year to 4.3%, which is below almost anybody’s estimate of the full employment threshold.

Wage pressures are sure to intensify and put upward pressure on the inflation rate. There continues to be a shortage of available housing, which is boosting rents. That is not going away any time soon. On balance, the economy seems likely to generate upward pressure on the inflation rate later this year and in 2018.

The recent price declines in wireless services and drug prices will not continue, but they are not going to rebound either. In the case of wireless, prices leveled off for more than a decade after the extreme price drop in 1999-2000.  Competitive pressure in the industry prevented prices from rebounding.

With respect to drug prices, Trump has intimidated the pharmaceutical industry. Going forward, prices will climb slowly from a lower base. In December we expected the core CPI to rise 2.7% in both 2017 and 2018. Today we expect the core rate to increase 2.0% this year and 2.5% in 2018. The direction is the same, but prices will not rise as quickly as had been anticipated earlier. 

Either way, the core rate is likely to exceed the Fed’s 2.0% inflation target by the end of next year, which should keep the Fed on its path of gradual increases in the funds rate. It still has a long way to go before it reaches a “neutral” rate of about 3.0%, a level not expected until 2020. Inflation may be better behaved than the Fed thought, but there is no reason to alter its current path to neutrality. Higher rates will not begin to bite for several more years.

© 2017 Numbernomics.

KeyCorp buys HelloWallet from Morningstar

Posted on July 6, 2017 by -

KeyCorp has completed its purchase of HelloWallet, the personal finance software platform, from Morningstar, Inc. The service will be offered to businesses that offer their employees Key@Work, the bank’s workplace “financial wellness” program.

The deal made sense: KeyCorp had been HelloWallet’s largest single biggest customer and the robo-advice platform’s largest source of new customers, according to a release issued when the sale was announced on May 31.

The $134.5 billion bank holding company may be the first bank to move into the financial wellness space, which has been dominated by retirement companies. Financial terms of the transaction were not disclosed. Three dozen HelloWallet employees will joint KeyCorp, which is based in Cleveland, Ohio.

Recent research by Cerulli Associates stated that banks “often fail to capitalize on becoming the provider of choice as investor wealth increases,” even though they have “the distinct advantage of being among many investors’ initial financial services providers.”

By offering financial wellness to its business clients, KeyCorp appears to be trying to exploit that advantage in order to compete with non-bank financial services firms. 

“The HelloWallet platform provides clients with tools that can help them make more confident financial decisions. The platform provides KeyBank with a deep understanding of each individual client’s financial circumstances and goals that drive every interaction with clients,” KeyCorp said in a release last week.

The KeyBank–HelloWallet relationship began more than two years ago. Its roots can be traced to an October 2013 survey by KeyBank of more than 1,800 bank clients and others about their financial goals. More than 70% said they were not confident about planning for the future. The results were similar to HelloWallet’s proprietary research.

Joining forces, the two firms created a plan to:

  • Conduct further research across diverse segments to learn what drives KeyBank clients’ financial health and financial confidence, with a focus on evaluating financial outcomes and reported confidence levels.
  • Offer KeyBank clients HelloWallet’s 3 Minute Financial Plan, a program for delivering quick, unbiased financial insight and guidance, such as how much money to keep on hand for emergencies.
  • Use HelloWallet’s mobile and web-based applications to provide KeyBank clients with independent financial guidance—including a financial wellness score—and personalized budgeting and spending tools.

“The decision to sell HelloWallet aligns with both Morningstar’s and KeyBank’s long-term strategy,” said Brock Johnson, who heads up Morningstar’s global retirement and workplace business, in the May 31 release.

Morningstar has significantly enhanced its overall capability set since the acquisition of HelloWallet more than three years ago and we will continue to incorporate many of the financial wellness best practices into our broad-based solutions.

© 2017 RIJ Publishing LLC. All rights reserved.

Lawsuit accuses oil and gas firm of not using Vanguard’s cheapest funds

Posted on July 6, 2017 by -

The $500 million 401(k) plan of a Texas-based oil and natural gas exploration and “fracking” company was sued last week in Colorado federal court for not sufficiently using its buying power to obtain ultra-cheap institutional share class of Vanguard funds for its participants instead of Vanguard’s slightly more expensive retail share class funds.

The suit (Barrett v. Pioneer Natural Resources USA, Inc., (D. Colo., No. 1:17-cv-01579-WJM) was brought by plaintiff William Barrett, a participant in the Pioneer Natural Resources USA, Inc. 401(k) and Matching Plan which, on Dec. 31, 2015, had $500,187,123 in assets and 4,410 participants.

The annual expense ratios of the institutional (“Admiral”) share class of Vanguard funds in the Pioneer plan were between three and 16 basis points (0.03% and 0.16%) less than those of the retail (“Investor”) share class of otherwise identical Vanguard funds. Vanguard is not named as a defendant in the suit.

Vanguard fund fees

The suit also charges that Pioneer offered its participants mutual fund-based Vanguard target date funds instead of collective trust-based target dates funds, which would have cost about 8 basis points per year instead of 16 basis points.

The suit also alleges that Pioneer failed to negotiate lower recordkeeping fees with Vanguard. According to the compliant, the plan’s payments to Vanguard jumped from about $36 per participant in 2012 to about $66 in 2015. During that period, the number of plan participants rose 12%, to 4,410, and the assets under management rose about 40%, from $355.9 million to $500.2 million. The suit also claimed that the plan sponsor failed to negotiate lower revenue-sharing costs than they could have for non-Vanguard options in their plan’s investment line-up.

The suit claims that Pioneer didn’t document their decision-making processes. Consultants to 401(k) plan sponsors often warn that they are especially likely to be vulnerable to breach-of-fiduciary-duty lawsuits if they fail to have a documented process in place for reviewing the costs of their investment options and benchmarking them regularly.

In this suit, plaintiffs charge: “The Pioneer Defendants had no competent annual review or other process in place to fulfill their continuing obligation to monitor Plan investment choices for performance or to minimize expenses, or in the alternative failed to follow their own processes.”

Because the plan sponsor didn’t try to get the best possible deal for participants, the suits says, participants lost millions of dollars in market gains. The suit asks Pioneer to “make good to the plan all losses” that participants allegedly suffered.

© 2017 RIJ Publishing LLC. All rights reserved.

T. Rowe Price Reopens the Market for Payout Funds

Posted on June 29, 2017 by -

During a presentation at T. Rowe Price’s investor day in February, Sebastien Page, the Baltimore-based publicly held fund family’s head of Asset Allocation, displayed a slide showing that between 2016 and 2020, $2.7 trillion in new money would flow into global multi-asset products.

T. Rowe Price’s strengths—strategic portfolio design, tactical asset allocation, and active security selection—would enable it grab a big chunk of that flow, allow it to overcome heavy competition in its “core U.S. retirement franchise,” and give customers the one-stop retirement solutions they need, Page told investors.

This week, T. Rowe Price and Page followed through on that promise by announcing the firm’s first entry into the managed-payout fund market. Called the Retirement Income 2020 Fund, it retools the company’s existing institutional 2020 target date fund (TDF) into a fund for individual investors. It pays out a 5% endowment-like income each year. 

Asked why T. Rowe Price was just now entering the small, stagnant ($3.5 billion) payout fund market that Fidelity and Vanguard pioneered a decade ago, Page (right) told RIJ, “We’re focusing on the demographics and the demand for retirement income solutions. This product is a first step in the direction of a liquid solution, and over time we will introduce a suite of solutions. We ask what is best for participant and individual rather than how the category is doing.”Sebastien Page

Here are the basics on this new income vehicle:

The Retirement Income 2020 Fund, which is designed for people to buy at age 65 and start taking income immediately, will issue payments in the middle of every month based on its 5% annual distribution rate, according to a T. Rowe Price release this week.  

The fund’s annual payout will be calculated September 30 of each year as 5% of the average monthly net asset value over the trailing five years. The calculation is intended to reduce the effects of market volatility on the income payments. The minimum initial investment is $25,000.

The fund’s net expense ratio is 0.74%, according to the prospectus, and will initially be offered only with an Investor Class, which can be purchased direct from T. Rowe Price or through a financial advisor.   

At the target date, the fund’s allocation to stocks is anticipated to be approximately 55% of its assets. The fund’s exposure to stocks will continue to decline until approximately 30 years after its target date, when its allocation to stocks will remain fixed at approximately 20% of its assets and the remainder will be invested in bonds.

“Shareholders generally will receive notice of the anticipated fund-level monthly payout amounts for the upcoming calendar year prior to year-end. The fund not intended at this time to be used in defined contribution retirement plan accounts,” according to the fund prospectus.

T. Rowe Price is hoping that investor familiarity with its TDFs will help ease them into its managed payout fund. “In theory, people want a salary replacement product with payments as high as possible, with no risk, for life. But that can’t be achieved in one product,” Page told RIJ.

“Our solution is to extend our TDF and keep it fully liquid, so that people can get out of it and come back into it if they want, and to offer simplicity. What will happen I think is that when people reach retirement, they’ll say, ‘Do I want to stay in the TDF and withdraw from it myself, or do I want to get this payout version of a TDF and go on auto-pilot?

“Think of it as an endowment model. In certain years, we might have to include some decumulation of principal in order to deliver the 5% payout. But if the underlying portfolio has an average return of 5%, then over time you will preserve your capital. It’s more likely than not that there will be minimal decumulation. In theory it could be a perpetuity, but the payout may be too high for that.”

TRP Retirement Income 2020 Asset AllocationT. Rowe Price is an active TDF manager, so this is not a TDF where the manager is simply allocating among index funds. “Two things are happening behind the scenes,” Page said. “First, the glidepath is downward sloping during retirement, with a declining equity allocation. So we will on average be selling appreciated equities.

“Second, we’ll be engaging in valuation-based tactical asset allocation over a six to 18-month time horizon.  If equities are expensive we will rebalance into other assets. In addition, these are actively managed portfolios, so there will be security selection alpha.”

Mysterious category

Managed payout funds, created by target-date fund providers as a logical way to retain the assets of participants after they retired from TDFs in 401(k) plans, were first introduced by Fidelity in 2007. Vanguard followed in 2008 and has since become the leader in this space with almost $1.7 billion in assets. Fidelity has $154 million.

Fidelity’s series of Income Replacement Funds and Vanguard’s Managed Payout Fund aren’t based on their TDFs. One online example shows a Fidelity funds that makes payments over 20 years, starting at 5.4% a year. Vanguard’s Managed Payout Fund, a fund of index funds, has a 4% per year income target and an expense ration of 34 basis points.

It’s something of a mystery why managed payout funds haven’t been more popular. Vehicles that create annuity-like streams of monthly checks in retirement without the stifling illiquidity or the expensive guarantees of annuities would seem to match a growing need. But their initial marketing push was interrupted by the financial crisis and the products never really took off. The whole category has only about $3.5 billion, according to Morningstar.

American Funds’ Retirement Income Portfolios have attracted about $921 million in assets, second to Vanguard. Other players in the managed payout space are Voyage ($464 million), Schwab ($185 million), Franklin ($19 million) and BlackRock ($55 million).TRP Retirement Income 2020 Glidepath

The Retirement Income 2020 Fund will invest in other T. Rowe Price funds that represent various asset classes and sectors. It will have the same asset allocation, glide path, and underlying funds as the existing T. Rowe Price Retirement 2020 target date fund. Its allocation between T. Rowe Price stock and bond funds will change over time in relation to its 2020 target retirement date.

The Retirement Income 2020 Fund will be co-managed by Jerome Clark and Wyatt Lee, who currently co-manage many other T. Rowe Price Retirement Funds. Clark has 25 years of investment experience with T. Rowe Price; Lee has 18 years of investment experience with the firm.

© 2017 RIJ Publishing LLC. All rights reserved.

When Growth is Not Enough

Posted on June 29, 2017 by -

The immediate postwar era, say 1945-1970, was an extraordinary period, economically speaking. Following fifteen years of depression and war, Americans were once again able to enjoy peace and prosperity. A substantial backlog of technological and commercial innovations was available to be exploited, and producers faced enormous pent-up demand for consumer goods and housing.

The federal government provided expansive support for education, through the GI Bill for example, and undertook major infrastructure projects like the interstate highway system. Importantly, for a time the U.S. economy had no effective competition, either from war-ravaged Europe and Japan or from not-yet-emerging markets.

There was plenty of economic change and what we would now call disruption, but strong catch-up growth, active economic policies, and America’s monopoly position resulted in widely shared economic gains. It’s not really surprising that the period evokes nostalgia as a time of national greatness.

However, as Robert J. Gordon has documented, the pace of technological and economic change in the middle of the past century was historically quite unusual and unlikely to be sustained. By 1970 or so, the backlog of commercial and technical opportunities available at the end of the war had been used up, and the conversion to a civilian, consumer-driven economy was complete.

Outside of a brief productivity spurt associated with the IT revolution, the past 45 years or so have been historically more ‘normal’ in terms of economic growth and productivity gains. Productivity growth has been particularly anemic over the past decade.

Equally important, American economic dominance faded, as Europe and Japan recovered and as what we now call emerging-market economies accounted for increasingly larger shares of global output and trade. The emergence of China as a global trading power was particularly disruptive, with adverse effects on the wages and employment opportunities of many American workers of moderate or lower skills.

In contrast, high-skilled workers tended to be favored by global economic integration, particularly those whose talents were scalable to the size of the market, such as managers of internationally active firms or of global hedge funds.

Of course, similar forces were playing out in Europe and elsewhere, with effects that depended on the policy response. In the United States, in the immediate postwar era, feelings of social solidarity and economic optimism had helped to generate political support for significant expansions in government spending on education, health, and infrastructure. The introduction of Medicare and expanded Social Security benefits provided economic security for the elderly in particular.

However, the postwar glow faded as America divided over a variety of big issues in the 1960s and 1970s, including the Vietnam War and the civil rights movement, and as economic growth began to slow. The Reagan revolution heralded a more constrained approach to economic policy, aimed primarily at fostering aggregate economic growth by empowering the private sector.

Examples of such policies include tax cuts and tax reform under Reagan, a number of consequential trade agreements under Reagan’s immediate successors, financial deregulation and welfare reform under Clinton, and more tax cuts and trade opening under the second President Bush. Missing from the mix, however, was a comprehensive set of policies aimed at helping individuals and localities adjust to the difficult combination of slower growth and rapid economic change.

Why policy was not more proactive in this area is an interesting question: Perhaps the failures of Lyndon Johnson’s Great Society and the inflationary monetary and fiscal policies of the 1960s and 1970s hurt the reputation of activist policies and helped revive American’s laisser-faire inclinations. Perhaps the stresses in the heartland were not sufficiently understood until it was too late. Perhaps the politics didn’t align.

Whatever the reason, it’s clear in retrospect that a great deal more could have been done, for example, to expand job training and re-training opportunities; to provide transition assistance for displaced workers; to mitigate residential and educational segregation; to promote community redevelopment; and to address serious social ills through addiction programs, criminal justice reform, and the like.

Greater efforts along these lines could not have reversed the adverse trends [inequality, etc.] I described at the outset—notably, Europe, which was more active in these areas than the United States, has not avoided populist anger—but they would have helped. They might also have muted the disaffection and alienation with which our political systems are currently grappling.

Which brings us to the present. Whatever one’s views of Donald Trump, he deserves credit, as a presidential candidate, for recognizing and tapping into the deep frustrations of the American forgotten man, 21st century version. That frustration helped bring Trump to the White House.

Whether the new president will follow through in terms of policy, however, is not yet clear. Trump’s economic views, which mirror the odd combinations of factions that make up his coalition, are a somewhat unpredictable mixture of right-wing populism and traditional supply-side Republicanism.

The policies that his administration has actually proposed or endorsed so far lean toward the latter, including health care bills that would significantly reduce insurance coverage among lower-income people, tax cuts for both individuals and corporations, and a relaxation of financial, environmental, and other regulations.

Policies that would more directly address the needs of the people who elected Trump, such as community redevelopment, infrastructure spending, job training, and addiction programs have recently received a good bit of rhetorical attention from the White House, but it remains to be seen whether that attention will be translated into programs and budgets.

Ironically, it may be that the most rhetorically populist president since Andrew Jackson will, in practice, not be populist enough.

© 2017 The Brookings Institution.

Affluent People on Medicaid? It Can Happen

Posted on June 29, 2017 by -

The idea of “going on Medicaid” for nursing home care has always been a scary thought for me, and perhaps for you and your clients. It evokes images of forced bankruptcy, staphylococcus-ridden wards and helplessness at the hands of indifferent health care aides.

A story from Kaiser Health News, published in the New York Times last Sunday, painted a less grim picture. It cited figures showing that Medicaid covers the cost of care at many clean, well-lighted facilities for many upper-middle class Americans who have simply outlived their savings.   

The article related the story of Alice Jacobs, a 90-year-old resident of a nursing home in rural Virginia. She once owned a factory and horses, raised four children, buried two husbands and amassed savings that she thought would last indefinitely.

But longevity risk eventually caught up with her. Years in an assisted living center consumed her savings, so she moved to a room at Dogwood Village, a non-profit, county-owned nursing home that receives about half of its $13 million in annual operating costs from Medicaid. People like her often don’t know that they’re on Medicaid, according to the article.

There are many like her. Some 70 million Americans rely on Medicaid, at an annual cost of $389 billion to the federal government (and another $120 billion or so to the states). Only 6% of Medicaid recipients use long-term services such as nursing homes at a given time, but they account for 42% of Medicaid spending.

If you’re an advisor, you and your clients probably don’t include Medicaid in their retirement income plans. High net worth individuals often own long-term care insurance. They are more likely to concern themselves with protecting their wealth from erosion by catastrophic illness or prolonged nursing home expenses than about running completely out of money and relying on Medicaid. 

But many affluent people, who on average live longer than the poor, eventually rely on Medicaid. It’s not unusual for a hospital patient on Medicare to convalesce in a nursing home. After a hundred days, private savings either replaces Medicare or Medicaid begins. Individual Social Security benefits may be garnished to help supplement Medicaid.

Now, what of the future of Medicaid under the health care bill currently bumping its way through Congress? Will it still be there to serve as a safety net for the very old, like Alice Jacobs, an affluent person who simply outlived her savings?

The answer appears to be yes, but perhaps with limitations. The House version of American Health Care Act targets nursing home coverage directly by requiring every state to count home equity above $560,000 in determining Medicaid eligibility, according to Kaiser Health News. That would make eligibility rules tougher in states like California, Massachusetts, and New York where real estate is especially expensive. 

The Senate version of the health bill would cut total federal and state Medicaid spending over the next 20 years by between $2 trillion and $3.8 trillion, according to the AARP Public Policy Institute. But the Republican leadership postponed the vote on that bill until sometime after the July 4 holiday because it could not find enough Republican Senators willing to commit to voting for it.

In any case, the new health care bills would merely reduce spending on Medicaid, not eliminate it. The core purpose of the Republican bills seems to be to kill the new taxes that helped pay for the Obamacare subsidies that enabled tens of millions of moderate-income people (as well as older people who aren’t yet eligible for Medicare, and people with pre-existing conditions) to buy private health insurance. Any impact on Medicaid, or on the nursing home patients who rely on it, will likely fall into the category of collateral damage.

If interest rates rise and Medicaid eligibility tightens, there might be an opportunity for life insurance companies to revive the concept of fixed deferred annuities with long-term care riders. These products, which fell victim to the low rate environment, showed promise a few years ago as an appealing form of high-deductible long-term care insurance.

© 2017 RIJ Publishing LLC. All rights reserved. 

Nationwide’s new ‘Care Concierge’ program fills an advisory vacuum

Posted on June 29, 2017 by -

In a move that reveals the tasks that most financial advisors leave to others—like helping clients find an affordable nursing home for elderly parents, resolving healthcare issues and accessing counseling services—Nationwide has decided to share its employee assistance program with some of its variable annuity customers.

Starting July 24, new and existing owners of certain Nationwide variable annuity contracts will have access to a free, around-the-clock service that will provide “guidance on many of the complex questions and issues that can come up in retirement,” the Columbus, Ohio-based insurer announced this week.

The program, called Nationwide Care Concierge service, extends the benefits Nationwide associates currently receive, such as health advocacy, counseling and access to legal services, to members of select Nationwide variable annuity products, including Destination Navigator 2.0, Destination All American Gold 2.0, Destination Architect 2.0 and Destination Freedom+.

West’s Health Advocate Solutions, a leading clinical healthcare advocacy provider, will administer the Care Concierge service. It is estimated that Care Concierge will initially be available to 25,000 members, increasing to more than 30,000 members by the end of the first year. In addition to contract owners, the program extends to their spouses, dependent children, parents and parents-in-law. http://www.healthadvocate.com/site/

Members’ new benefits include:

  • Help for members who are turning age 65 as they navigate the Medicare system
  • Find doctors or specialists and make appointments  
  • Research and review medical treatment options
  • Help with arranging care for aging parents or adult children
  • Counseling services to help with personal issues, life transitions or grief after the passing of a loved one
  • Managing health insurance claims and billing issues
  • Access to legal services for help with minor legal questions and issues
  • Concierge services for vacation or event planning, entertainment recommendations, gift ideas and more

“Health Advocate is an industry leader in health care advocacy serving over 50 million lives,” said Eric Henderson, senior vice president of Nationwide’s annuity and life insurance businesses, in a release. “We trust them with our own associates as we have a current partnership with them as an associate benefit, and we trust them with our members.”

© 2017 RIJ Publishing LLC. All rights reserved.

Only one of the 10 largest HSAs gets great grades: Morningstar

Posted on June 29, 2017 by -

Morningstar, Inc., leading provider of independent investment research, today published a new study assessing plans from 10 of the largest Health Savings Account (HSA) plan providers:

Alliant Credit Union, Bank of America, BenefitWallet, HealthEquity, HealthSavings Administrators, HSA Bank, Optum Bank, SelectAccount, The HSA Authority, and UMB Bank.

Morningstar evaluated two aspects of the plans: their effectiveness as investment vehicles to save for future medical expenses and as spending vehicles to cover current medical costs.

Only one plan, the HSA Authority, received a positive assessment on both fronts. Morningstar positively assessed only four of the 10 plans as an investment vehicle and three of the plans for use as a spending vehicle. Morningstar’s product, HSA Bank, received a neutral rating in each category.

“Now that the U.S. House of Representatives and Senate have introduced healthcare reform bills that would double HSA contribution limits, analysis of HSA plans will become crucial as investors and policymakers strive to better understand the provider marketplace,” said Jake Spiegel, senior analyst for policy research, in a release.

Morningstar assigned each plan an overall assessment of positive, neutral, and negative. For accountholders looking to invest their HSA assets, the study analyzed the quality and cost of mutual funds offered as part of the plan’s “investment menu.” The evaluation of HSAs as a spending vehicle focused primarily on the maintenance fees charged by each plan.

“Our study establishes metrics that investors should consider when choosing an HSA,” said Leo Acheson, Morningstar’s lead research analyst for health savings accounts, in the release. “Participants using HSAs… should seek plans that offer a well-designed investment menu of cheap, high-quality funds. HSA plans from Bank of America, Health Equity, Optum, and The HSA Authority came closest to attaining that high standard.”

© 2017 RIJ Publishing LLC. All rights reserved.

Honorable Mention

Posted on June 29, 2017 by -

Accenture transfers pension risk to American General and Mass Mutual

Accenture has completed the termination of its U.S. Pension Plan, announced in March 2016, by agreeing to transfer pension assets and about $1.0 billion in outstanding pension obligations to American General Life Insurance Company (AGL), a unit of AIG, and to MassMutual.

The insurers will provide annuities to Accenture retirees. The annuity settlement is part of Accenture’s three-step strategy to reduce its pension obligations:

Plan Termination: The Plan’s termination removed $1.6 billion of pension obligations, including about $600 million through lump-sum payments to approximately 7,000 active and former U.S. employees who elected to receive such payments, and $1.0 billion through the purchase of annuities from insurance companies.

Annuity Purchase: Accenture purchased group annuity contracts from AGL and MassMutual, which are each responsible for assuming a portion of the obligation to make future annuity payments to approximately 9,200 active and former U.S. Accenture employees and their beneficiaries. The transaction closed in late May and the insurers will assume payment responsibility in August 2017.

New Pension Plan: Accenture has created a new, fully funded, defined benefit plan with approximately $200 million of pension obligations with substantially the same terms as the Plan for approximately 550 active U.S. employees who remain eligible to accrue benefits.

Designated Plan fiduciaries selected AGL and MassMutual as the annuity providers. The selection was made in consultation with independent experts after a thorough annuity provider search and due diligence process, and in accordance with the U.S. Department of Labor’s “safest available annuity” standards. Key advisors to Accenture included Mercer (US) Inc. as lead strategic and annuity placement advisor.

Affected participants will soon receive letters with further details, an Accenture release said.

Envestnet | Retirement Solutions passes $25 billion under advisement

Envestnet | Retirement Solutions (ERS), which offers a customized, portable 3(21) and 3(38) outsourced fiduciary service called Envestnet Fiduciary Advantage, has reached a milestone in assets under advisement, the Chicago-based asset management platform provider announced this week.

As of March 31, 2017, ERS supports $25.89 billion in assets under advisement from 13,390 plans—representing a 7.5% growth in assets under advisement, and a 19% increase in plans, quarter over quarter.

ERS also announced that T. Rowe Price Retirement Plan Services, Inc., has begun offering access to Envestnet Fiduciary Advantage to plan sponsor advisors.

Envestnet Fiduciary Advantage provides:

  • Investment allocation recommendations with corresponding research reports.
  • Ongoing investment monitoring.
  • Quarterly monitoring reports.

ERS utilizes Envestnet’s proprietary ERS SCORE Methodology to evaluate and monitor potential investments for retirement plans. The method seeks out portfolio managers that have demonstrated consistent risk control, an efficient risk-return profile, stability, and a reasonable fee structure.

More T. Rowe Price retirement plans offer Roth option

Among employer-sponsored retirement plans where T. Rowe Price Retirement Plan Services is the recordkeeper, 61% offer Roth contributions in their 401(k) plans, up from 50% at the end of 2015, according to a T. Rowe Price release this week.

This leap represented the largest one-year increase in the Roth contribution adoption rate since T. Rowe Price first tracked the data in 2007.

The new finding comes from the 2016 update of Reference Point, an annual benchmarking report by T. Rowe Price of employer-sponsored retirement plans based on the firm’s full-service recordkeeping client data.  

troweprice.com/referencepoint. 
Of the T. Rowe Price plan participant base:

  • The number of plans with a 6% default deferral rate or more has doubled since 2011, with 33% of plans offering this higher rate in 2016. The industry standard for the past 10 years has been 3%.
  • The percentage of plans adopting auto-increase of participant contributions and auto-enrollment has grown from 63.3% in 2011 to 71.5% in 2016. Similarly, auto-enrollment increased from 39.8% in 2011 to 54.5% in 2016.
  • Participation rates continue to be strongly tied to the adoption of auto-enrollment, with participation 42 percentage points higher in plans with auto-enrollment than those without it.

Contribution trends
Pretax deferral rates now stand at 8%, the highest rate since before the financial crisis, thanks to plan sponsors raising the default deferral rate for their plans and improved market conditions.
Adoption of target date portfolios continued to rise. In 2016, 93% of plans at T. Rowe Price offered target date portfolios and 55% of participants invested their entire account balance in target date products, up nine percentage points since 2013.  

The increasing popularity of target date products could indicate that participants actively prefer a more managed approach or that they simply using their plan’s default option, the T. Rowe Price release said.

The percentage of participants with loans at the end of 2016 was 23.8%, its the lowest point since early 2009.

T. Rowe Price also found that as of year-end 2016:

  • The ratio of direct rollovers to cash-outs continued to strengthen, with rollovers increasing to 81% in 2016, compared with 71% in 2009, and cash-outs decreasing to 19% in 2016, compared with 29% in 2009.
  • Hardship withdrawals declined, with only 1.4% of participants in T. Rowe Price plans taking such a withdrawal, compared with the 2% industry average.

“The percentage of participants taking out a loan is down slightly and is at its lowest since 2009. We also saw a strengthening ratio of rollovers to cash-outs,” said Aimee DeCamillo, head of T. Rowe Price Retirement Plan Services, Inc., in a release. “We believe that educating participants on their retirement savings plan has had a direct, positive effect on reducing plan leakage.”

Survey methodology
Data are based on the large-market, full-service recordkeeping universe of T. Rowe Price Retirement Plan Services, Inc. retirement plans (401(k) and 457 plans), consisting of 642 plans and over 1.6 million participants.

Data and analysis cover the time periods spanning calendar years ended December 31, 2007, through December 31, 2016. Auto-increase and auto-enrollment data are based on plans that are eligible to receive this service. Loan availability and usage results are based on active participants with outstanding balances.

‘Fintech’ has arrived, EY survey shows  

Financial technology, aka “fintech,” adoption among consumers has surged over the past 18 months and is becoming mainstream, according to the latest EY FinTech Adoption Index. An average of 33% of digitally active consumers across the 20 markets in the Ernst & Young now use financial technologies.

Adoption in the US has doubled to 33% since the 2015 FinTech Adoption Index report. The US has the highest adoption rates of three of the top five fintech categories: financial planning tools, savings and investments, and borrowing.

“This adoption will likely increase with the next evolution of FinTechs, focused on data sharing, open APIs (application programming interfaces), biometrics, and application of artificial intelligence and robotics,” said Matt Hatch, Partner, Ernst & Young LLP and the EY Americas FinTech Leader, in a release.

The study was based on more than 22,000 online interviews of digitally active consumers across 20 markets. Emerging markets are driving much of the adoption, with China,  India, South Africa, Brazil and Mexico averaging 46%.

The EY FinTech Adoption Index identifies five categories of fintech services: 

  • Money transfers and payment services
  • Financial planning tools
  • Savings and investments
  • Borrowing
  • Insurance

Money transfers and payment services are the most popular, with adoption at 50% in 2017 and 88% of consumers expecting to adopt in the future. The current adoption rate among US consumers is slightly higher at 52%. Online digital-only banks and mobile phone payments at checkout are the most popular services.

Insurance has also made huge gains, moving from one of the least commonly used fintech services in 2015 to the second most popular in 2017, rising to 24% globally. This has largely been because of the expansion into technologies such as telematics and wearables (helping companies to better predict claim probability) and in particular the inclusion and growth of premium comparison sites in the study. The US insurance fintech adoption rate is 20%.

Forty percent of fintech users regularly use on-demand services (e.g. food delivery), while 44% regularly participate in the sharing economy (e.g. car sharing). By contrast, only 11% of non-fintech users use either of these services on a regular basis.

In the US, the adoption rate is 35% for men and 28% for women. Millennials (25- to 34-year olds) have the highest adoption rate, followed by 35- to 44-year-olds. The adoption rate for Millennials in the US is 59% compared with the global average of 48%. The two rates for the 35- to 44-year-old age group are 50% and 41%, respectively.

Adoption is also growing among the older generations: 40% of digitally active 45-64 year olds and 17% of those 65 and older regularly use fintech services in the US. Money transfer and payments are the most adopted services across all age groups in the country.

The EY FinTech Adoption Index finds that fintech adoption is set to increase in all 20 markets. Based on consumers’ intention of future use, FinTech adoption could increase to an average of 52% globally. US adoption is expected to hit 46% in the near future. 

Are participants thinking “fast” or “slow”? Voya wants to know

Voya Financial has launched “Retirement Check-Up Report,” a resource that allows employers to measure the health of their retirement plans based on the digital enrollment and savings decisions participants make online and through their mobile devices.

The Retirement Check-Up Report leverages recent findings from Voya’s Behavioral Finance Institute for Innovation, a research initiative that “merges behavioral science with the speed and scale of the digital world to create large-scale solutions that are designed to help improve individual retirement outcomes,” according to a Voya release.  

The Retirement Check-Up Report follows a previous Voya whitepaper, “Using Decision Styles to Improve Financial Outcomes – Why Every Plan Needs a Retirement Check-Up,” by Shlomo Benartzi, Ph.D., a UCLA Anderson School of Management professor and a senior academic advisor to Voya’s Behavioral Finance Institute for Innovation.

“For the first time, employers can measure whether or not participants are engaging in a reflective thought process when making important decisions about their retirement plan,” Benartzi said in a release.

By looking at the digital behaviors that lead to certain savings rates and investment choices, employers will be able to see if they need to create a plan re-enrollment strategy, for instance.

The whitepaper examined how people make decisions using two different styles — “instinctive” (quick and without much thought) and “reflective” (slow and deliberate). Applying this to the digital environment, Voya was able to study and categorize the decision styles of retirement plans. A scoring system (the “Reflection Index”) was developed after observing whether or not:

  • Participants paid attention online
  • Participants gathered additional information  
  • Participants made any trade-offs

Through this research, Voya found a significant correlation between a plan’s Reflection Index score and the average projected retirement income of its participants. A plan that had more instinctive decision-making participants was far more likely to have lower aggregated projected replacement income (below a 70% goal). Voya’s analysis found 90% of plans were “off track” in terms of projected income and were categorized as being “instinctive” due to their participants’ digital decision-making styles.

Other research has shown many individuals don’t take action to change their savings rates or re-balance their accounts once they enroll in a plan. The new Check-Up Report can serve as a tool to help plans learn when to “course correct” and consider plan re-enrollment. 

For thousands of Voya plan sponsors and the millions of participants they represent, Voya can create a unique Check-Up Report score report that lets an employer measure whether its plan, in the aggregate, is instinctive or reflective based on the digital activity of its participants.

Voya data from 428 plans with more than 25 participants. Participants with an annual salary below $20,000 or projected income replacement above 200% were excluded. Plans with an average Reflection Index below/above 2.0 (out of 3.0) are categorized as “Instinctive Decisions” / “Reflective Decisions.” In addition, plans with an average income replacement below/above 70% are categorized as “Not on Track” / “On Track.”

Details on the three dimensions are as follows: 

  • Attention – did they log into the website or mobile app within past year? 
  • Information gathering – did they click on projected retirement income to learn more? 
  • Making trade-offs – did they explore different savings rates, retirement age or rates of return? 

One working paper study found that more than 70% of participants had not re-balanced their accounts during a ten-year period and nearly 50% had not changed the allocation of their contributions:  “How Do Household Portfolio Shares Vary with Age?” (John Ameriks and Stephen P. Zeldes, September 2004, Columbia University).  A Voya study of approximately 60,800 auto-enrollees between 2014 and 2016 found only about 5,500 (9%) made a fund change since being auto-enrolled.

Certain data is needed to produce a Reflection Index report.  Plans must have at least a 12-month history with Voya based on one of the Index dimensions, and also must have more than 25 employees in plan with salary data.  They must also have myOrangeMoney participant website functionality turned on to measure digital engagement.

Surprisingly, most investors prefer protection over growth: Cerulli

New research from Cerulli Associates, a global research and consulting firm, finds that when asked about their actual financial goals, U.S. investors are considerably more interested in risk reduction and protection than in aggressive portfolio growth.

“When asked directly whether they would prefer ‘to protect their portfolios from significant losses, even if it means periods of underperforming the market,’ 77% of respondents indicate that they would prefer the safer route,” said Scott Smith, director at Cerulli, in a release.

“After discussing investors’ portfolios with platform providers and advisors, there is a consistent fear of looming client defections resulting from performance that lags a benchmark, or index,” Smith. “But actual instances of this situation remain far more the outliers than regular occurrences.” Investors are far more concerned with whether they will be okay financially than whether their managers provided a few basis points of alpha.

Of course, the two are related, but in an extended bull market run, the industry has largely focused product development and implementation more on growth than protection.

“Further confounding financial professionals is that the preference for portfolio protection is cited by more than 80% of investors under age 40, an age bracket where most providers assume investors are most willing and able to accept portfolio risk,” Smith said. In short, providers must consider each investor’s goals and concerns before trying to optimize their portfolios.

Cerulli’s latest report, U.S. Retail Investor Products and Platforms 2017: Retooling for the Modern Investor, is designed to focus on retail investors’ product use, preferences, and awareness. This report gives attention to channels through which investors purchase products, the age and asset levels of investors who purchase various products, and other key investor profiles.

© 2017 RIJ Publishing LLC. All rights reserved.

Cloudy with a Chance of Lawsuits

Posted on June 22, 2017 by -

It’s been repeated often enough that many take it for fact: That the DOL fiduciary rule’s Best Interest Contract Exemption (BICE) will trigger a deluge of multi-million-dollar class-action suits against financial institutions who sign it.

But is the rule, which became effective two weeks ago, really going to unleash a wave of huge lawsuits?

“I don’t think anyone really knows the answer to this question,” a brokerage executive told RIJ recently. “I think it’s safe to assume that plaintiff’s attorneys are going to try and find holes in the process and procedures that [we] establish.” He assumes that there will be lawsuits, and that those lawsuits will test the compliance procedures that brokerages are putting in place to make sure their advisors and brokers don’t violate the letter of the BICE.

“We’re being forced to set up procedures that we think will meet the requirements of the fiduciary rule,” the executive added. “We won’t really know if our assumptions of what those procedures should be are sufficient until we see how the lawsuits play out. Take [procedures] for IRA rollovers as an example. It seems unlikely that all of [the brokerages] will do it the same way. Who can say at this point which one of us has it right?”

Uncertainty among lawyers

When we asked ERISA attorney Fred Reish of the law firm Drinker Biddle & Reath whether the BICE will open a floodgate of lawsuits against financial services firms, as opponents of the exemption have predicted, he couldn’t make a firm prediction either.

“It’s hard to say,” Reish told RIJ. “There are two vehicles for litigation for private rights. One is class-action lawsuits and the other is regular [individual] lawsuits or arbitrations. I don’t think the latter is much more of a threat than exists now. [The BIC establishes] a higher standard of care, so there could be more violations.

“Class actions are another animal,” he said. “They are expensive and time consuming. I don’t know if our system provides any really attractive solution for the average person who has been wrongfully deprived of a small amount of money by a large business. It’s unfortunate.”

Marcia Wagner and Barry Salkin of the Wagner Group, a Boston-based benefits firm, agreed with Reish. Individuals who sign a contract can already sue in state court over a contract violation, they told RIJ. Groups can also organize to file class action suits in state courts against companies they believe harmed them.

The BIC and the fiduciary rule apparently don’t change any of that. They don’t change the ability of financial services firms to require that individual claims against them be handled through arbitration.

The rule doesn’t grant any new right to file breach-of-contract suits in federal court, but such a suit could end up being heard in federal court if the case involved parties from more than one state. In that event, state law would ordinarily still apply.

The ‘private right of action’

Opponents of the fiduciary rule have already sued the DOL in federal court in Dallas, charging that the agency, for several reasons, overstepped its authority in creating the BICE. One of those reasons, according to the suit filed by the U.S. Chamber of Commerce, the Indexed Annuity Council and the American Council of Life Insurers, was that the DOL had created a new “federal private right of action” against brokerages.

The suit claimed that only Congress, not the regulatory bureaucracy, can give private citizens the right to take someone to court to enforce a federal law. In the industry’s eyes, the agency deliberately stretched the rules and packaged its tough new fiduciary standard in the form of a contract to create a path of enforcement by investors and their attorneys. The implication was that the DOL knew that it lacked adequate resources to police thousands of IRA advisors and had no power to punish them for violations of the BIC.

The IRS can levy an excise tax and force “disgorgement” of ill-gotten gains, but that’s the only federal punishment available.

Brokerages would much rather be charged with a regulatory violation—and be quietly slapped with a warning or a fine—than be the target of private breach-of-contract suits. The suits could be publicly embarrassing and cost many millions of dollars in compensatory and punitive damages. The recent wave of suits against 401(k) and 403(b) plan sponsors and service providers for violations of fiduciary duty has demonstrated that.

“The industry concern isn’t necessarily that someone shouldn’t be able to sue them for an egregious abuse,” Barry Salkin told RIJ. “Industry people are concerned that if you put the enforcement mechanism in private hands rather than with a government agency, private parties won’t enforce it in the same way as a government agency would.

“No agency will be looking for ‘gotchas’ when a company slips up,” he said. “But a private party will be looking for small technical violations” of the type that will be almost inevitable when dealing with a regulation as detailed and complex as the fiduciary rule. “There’s a fear that it will lead to frivolous suits or at least strike suits intended to force large settlements.”   

The Texas federal judge ruled in favor of the DOL. Regarding the DOL’s right to force financial institutions to sign a contract with investors, the judge wrote, “BICE’s written contract requirement is reasonable because state law breach of contract claims for IRAs existed before the rulemaking, as an annuity is a contract enforceable under traditional principles of contract law.”

For its part, the Obama DOL, in the text of its final rule, acknowledged the path it had chosen and concluded that the “potential for liability [is] critical to ensuring adherence to the exemption’s stringent standards and protections.” In the previous administration’s eyes, its cause was just.

“The contractual requirement creates a mechanism for investors to enforce their rights and ensures that they will have a remedy for misconduct. In this way, the exemption creates a powerful incentive for financial institutions and advisers alike to oversee and adhere to basic fiduciary standards, without requiring the imposition of unduly rigid and prescriptive rules and conditions,” the final rule said.

As for the danger of frivolous lawsuits that might cost advisors a lot of money, the Obama DOL believed that the court system knows how to handle that problem. The final rule said, “While the warranty exposes financial institutions and advisers to litigation risk, these risks are circumscribed by the availability of binding arbitration for individual claims and the legal restrictions that courts generally use to police class actions.”

Although the federal courts have upheld the legitimacy of the BICE, that could change. Given the ambiguities of the situation—the vagueness of “best interest,” the overlapping of DOL and SEC jurisdictions in the realm of brokerage IRAs, and even the possibility of finding a friendlier judge—more lawsuits are likely to test the rule.

Alternately, the Trump DOL could decide before January 1, 2018 (the ultimate deadline for compliance with the rule) that the fiduciary rule’s overall burden on the financial advice industry, including potential litigation costs, outweighs its anticipated benefits to the public. That would be a step toward possible repeal.    

© 2017 RIJ Publishing LLC. All rights reserved. 

The Tell-Tale Brokerage Statement

Posted on June 22, 2017 by -

An acquaintance recently sent me a copy of his monthly brokerage IRA statement. One of the biggest financial services firms in the U.S. had issued it. In fact, it was a firm that has signed a Department of Labor “Best Interest Contract” (BIC) so that its advisors could sell indexed and variable annuities on commission without committing a “prohibited transaction.”

But the details of the monthly statement made me wonder if the big brokerages might underestimate their vulnerability to lawsuits for BIC violations.   

For instance, the brokerage statement showed that about 40% of the client’s IRA savings was invested in about 20 actively managed funds. Nine of those funds had expense ratios over 200 basis points, and six had expense ratios between 150 and 200 basis points. Without those funds, the client would still be well diversified in much cheaper passive funds. 

The acquaintance sent me the statement in part because he and his wife couldn’t tell how much they were paying in fees for their investments. I looked through the statement and, without looking up each fund’s expense ratio and multiplying it by the client’s position in the fund, I couldn’t tell either. The client also sent me the statement because his advisor had recommended a variable annuity with a lifetime withdrawal benefit.

I gave the person a list of questions to take back to his advisor. The advisor couldn’t tell him how much he was paying in fees on the IRA holdings or how much the variable annuity would cost. When asked about the commission on the annuity, the advisor said he wouldn’t have to worry about that because the employer paid the commission.

If a lot of the brokerage’s statements looked like this one—I’m assuming it was typical, but maybe it wasn’t—then this client’s best interests were not being served. And, assuming that failure to disclose fees or to use expensive funds in an IRA was intentional—to maximize the interest of the company—then this national firm seemed to offer plaintiff’s attorneys rich material for lawsuits for breach of the Best Interest Contract. 

So, while financial industry compliance lawyers might be burning their legal desk lamps all night trying to make their firms invulnerable to specific violations of the letter of the fiduciary rule, they might be overlooking clear violations of the spirit of the rule—violations that the firms commit simply by having a certain business model.

For instance, the advisor in this story is an employee in a publicly held firm. The primary responsibility of the management of a stock company is to maximize shareholder value. The primary responsibility of an employee-advisor is to his or her manager. How can that advisor always act in the client’s best interest?

It also turned out that this advisor was unfamiliar with certain important retirement income products, like qualified longevity annuity contracts. Without knowing all of the income options available, and without training in the use of these options, how could the advisor act in the client’s best interest?

Although financial intermediaries call themselves “advisors” when working with clients, they are known within the industry by other names, such as “producers” (who are most valued by their companies for recruiting high net worth clients and enhancing assets under management) or “distributors” (whom product manufacturers rely to bring more money into their companies). It won’t be easy to change the culture or the business model that this vocabulary signifies.

The Obama DOL was idealistic but naïve in its apparent belief that all financial intermediaries could meet the same high standard of conduct, regardless of the business models of their firms. It was always blindly unrealistic to expect employees of public companies, whose job is to produce or distribute or meet departmental goals, to be as loyal to clients as self-employed hourly-fee planners. But these conflicts of interest are not superficial or exceptional or easy to change.   

If big financial services firms don’t correct (or can’t justify) the kinds of habits embedded in the IRA brokerage statement I saw, then there might be a lot of BIC lawsuits. On the other hand, if those kinds of habits can persist, then the fiduciary rule may be too weak to help retirement investors much. 

© 2017 RIJ Publishing LLC. All rights reserved.