Data & Research June 6, 2016

Few Retirement Plan Investors Respond to Market Volatility

Those with 100% of their portfolio in a target-date fund are the least likely to exchange funds.
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Examining seven periods of extreme market volatility over a period of seven years, T. Rowe Price found that very few retirement plan investors moved out of stocks into cash or money market funds, and this increased among those with 100% of their portfolio in a target-date fund (TDF).

“These data show that, hopefully, investors understand the value a target-date investment can provide them over the long term,” says Judith Ward, a senior financial planner with T. Rowe Price. “These investments have built-in expertise, and it seems these investors who don’t exchange are content to let the investments do the work for them instead of trying to take investing into their own hands.”

For instance, in August 2015 and January 2015, when the Dow Jones Industrial Average declined by -6.6% and -5.5%, respectively, fewer than 2% of participants in retirement plans administered by T. Rowe Price took any action. Likewise, between July 25, 2011 and August 25, 2011, when the markets fell sharply over the European debt crisis and the U.S. credit was downgraded, only 2.6% of investors made an exchange. Those with 100% of their portfolio in a TDF were the least likely demographic to exchange funds, T. Rowe Price says, but those with only a portion of their portfolio in a TDF were nine times more likely to exchange, almost equal to those with no TDF investments, who were 10 times more likely to exchange.

“When we found that those who had some money in target-date investments still exchanged at almost the same rate of those who had no money in target-date vehicles, that really stood out,” Ward says. “It seems to be an all-or-nothing proposition.”

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T. Rowe Price also surveyed plan participants in March 2016, and found that while 48% were “concerned” over the long-term performance of their portfolio in times of market volatility, 74% were not planning to make any changes to their account. In 2015, T. Rowe Price offered one-on-one phone consultations to more than 7,000 plan participants and found that 37% adjusted their current or future asset allocation, with 89% of these people selecting a TDF and 33% moving all of their portfolio into a TDF.

“Overall, this is a good news story,” Ward says. “We’re seeing that plan design can impact participant behavior, and participants don’t seem to be overreacting to market swings. When we do discuss retirement savings with our plan participants, they are more than likely to make changes for the better.”

Data & Research June 6, 2016

Analysis Suggests Retirees Should Use a 'Hybrid' Income Strategy

A hybrid income strategy, combining a variable immediate annuity with discretionary supplemental withdrawals from a separate liquid asset account provides the best income at the least risk for retirees, TIAA Institute found.
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Further supporting the advice, “Don’t put all your eggs in one basket,” research from TIAA Institute suggests a hybrid income strategy produces the best outcome for retirees.

The research used historical monthly returns data to analyze and compare three different retirement income strategies:

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  • A guaranteed lifetime withdrawal benefit (GLWB) product strategy designed to provide a guaranteed minimum amount of lifetime income, asset liquidity, and the potential for receiving additional income from portfolio gains;
  • A hybrid income strategy, combining a variable immediate annuity (VIA) with discretionary supplemental withdrawals from a separate liquid asset account, which protects against longevity risk, provides limited asset liquidity, and offers the potential to receive additional income from portfolio gains; and
  • A simple systematic withdrawal strategy where the retiree bears all retirement related risks.

According to TIAA Institute’s report about its study, its analysis indicates that the insurance value of a GLWB may be overstated relative to the typical cost of purchasing the GLWB guarantee. Using historical asset return and inflation data over the past 90 years, the Institute found most cohorts of retirees would have achieved similar or better outcomes by simply avoiding annual GLWB fees. Compared to a systematic withdrawal strategy, most cohorts of retirees would have received the same level of annual income, had greater liquidity, and left a larger estate relative to purchasing GLWB protection. However, retirees using the systematic withdrawal strategy would have borne substantial retirement risks.

The report says, “If a partial VIA strategy was utilized as part of an alternative income strategy, then most cohorts of retirees would have had guaranteed lifetime income protection, limited but increasingly greater liquidity and potential estate, and had better inflation protection relative to a comparable GLWB strategy.” However, the provider notes that early in retirement, the VIA strategy would provide relatively less liquidity for covering unexpected or catastrophic expenses.

“Overall, we conclude that a hybrid income strategy comprised of a VIA and supplemental liquid asset account would have provided the best mixture of income generation and risk management for the majority of cohorts. This is particularly true for cohorts starting income after 1980,” the paper says. However, the Institute concedes that it did not address the fact that a GLWB can be purchased before retirement to allow for a lock-in of a minimum income floor, with liquidity and potential upside. In addition, it did not run stochastic (Monte Carlo) simulations, but used actual past historical return performance in running simulations. And it did not address the possibility of lump-sum draw-downs to finance emergency needs during retirement and the impact of these cash withdrawals on future income.

The research report is here.

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