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The Markets May 30, 2013
Harmonizing DB and DC Plans
It is common for companies to have both defined contribution (DC) and
defined benefit (DB) plans, but inconsistencies between them can lead to poor
investment results and fiduciary risk.
Reported by Corie Russell
One difference that can cause problems is the number of managers DC plans use compared with DB plans. DB plans usually employ multiple managers to try to produce more predictable outcomes, but most DC plans use a single manager and passive strategies that leave little opportunity for outperforming a benchmark, according to Josh Cohen, defined contribution practice leader at Russell Investments.
DC plans may have single managers in part because these plans have historically been supplemental to DB plans, so analyzing the number of managers was not a priority. But now that the DC plan has become the primary retirement-saving vehicle, there is more desire to harmonize the two plans, Cohen said.
“It appears that DC is now the arrangement of the future, so we need to give it the attention it deserves,” said Kevin Turner, managing director of consulting at Russell.
Harmonizing the two plans means investigating the differences between them and determining how to make them more consistent, Cohen added. It uses a combination of common asset class exposures and unique exposures appropriate to each pan, he said. For example, both plans may employ equity strategies, but a DB plan may include private market, alpha and liability hedging strategies, whereas a DC plan may incorporate inflation protection and capital preservation strategies.
Another trouble spot for DC plans is bundle pricing, which leads many plan sponsors to default to recordkeepers for investment options. Recordkeepers may not provide an open selection of best-in-class investment options for plan sponsors and participants, according to Cohen and Turner. They may also not be well-suited for coordinating across DB and DC plans for investment advice, asset class exposures, manager selection, performance monitoring and reporting, they said.
In the past, bundled arrangements in DC plans produced unfavorable foreign exchange rates for plan sponsors, Cohen and Turner added.
It’s tempting to use one person as both the recordkeeper and investment manager because of economics, Cohen acknowledged. It’s not necessarily the wrong choice, he said, but it should be evaluated.
Harmonizing DB and DC plans is most common in the large-plan market (typically more than $1 billion in assets), Turner noted.