trendspotting

Is the Grass Greener? 

Independent RIA model appealing to many

Eight in 10 advisers at independent  broker/dealers (IBDs) and insurance companies say the idea of being an independent registered investment adviser (RIA) is appealing, according to a Schwab survey.

The percentage of advisers who find the independent RIA model appealing increased to 95% if they know someone who has gone that route, the Schwab Advisor Services survey found.

“We see a growing number of IBD advisers transitioning to the independent RIA model,” said Nick Georgis, Vice President with Schwab Advisor Services, a provider of custodial, operational, and trading support for more than 6,000 independent RIAs. “In our experience with these advisers, the desire to have more flexibility to develop and grow their own business and the ability to offer more customized solutions to clients are two significant drivers of this trend.”

The survey supported Georgis’ sentiment. Advisers at IBDs see a number of benefits to joining or starting an independent RIA firm, including greater ability to develop and grow their own business (43%), deliver more customized solutions (42%), and hand pick their own team (41%) as the top three positive attributes of becoming an RIA.

With several strong reasons cited as to why the RIA model has its benefits, the Schwab survey asked what would push IBDs to make the transition. The top two macroeconomic changes that would increase the likelihood that an adviser would transition to a fully independent RIA are a friendlier economic and tax environment for small-business owners (45%) and an improved overall market and economic environment (43%). Of the advisers surveyed, 58% say they would prefer to join an existing firm, while 34% say they would prefer to start their own firm.

Most IBD advisers consider themselves independent in some way already—56% feel “somewhat” independent and 36% say they are “completely independent.” However, they recognize differences between their current model and the independent RIA model, with 81% of advisers acknowledging that their business would be different if they were to start or join an independent RIA firm.

The survey also found that an average 82% of IBD advisers’ assets under management are currently in a fee-based model, and there is a clear trend for most IBD advisers to maintain a primarily fee-based practice or a mix of commission- and fee-based business. Forty-five percent of advisers surveyed said their long-term plan is to be mostly or all fee-based, while 46% indicate they expect to maintain a mix of both commission- and fee-based business. Only 8% of advisers say their practice will be mostly or all commission-based as their business evolves over time.

One hundred fifty-seven financial advisers employed by IBDs and insurance firms participated in the survey.

—Nicole Bliman 

Who’s Mixed Up? 

Half of “mixed” target-date investing stems from sponsor actions

An analysis from Vanguard finds that about half of mixed target-date investing—holding a target-date fund in combination with other investments—stems from sponsor actions.

Those actions may include employer contributions in company stock; non-elective contributions to the plan’s default fund; recordkeeping corrections applied to the plan’s default fund; or mapping of assets from an existing investment option to a target-date default because of a plan menu change.

The other half of mixed investors intentionally construct a portfolio of both target-date and non-target-date strategies. Many are pursuing what appear to be diversification strategies, although they do not fit within the “all-in-one” portfolio approach of the target-date concept.

The latest analysis indicates that “pure” investors are more likely to be younger, lower-wage, shorter-tenured participants with lower 401(k) account balances than other investors. Meanwhile, “mixed” investors appear very much like non-target-date investors in terms of their demographic and portfolio characteristics.

TDFs Growing in Popularity

Target-date fund adoption by Vanguard plan sponsors has accelerated from 13% of plans in 2004 to 79% of plans in 2010. Target-date funds are rapidly replacing risk-based lifestyle funds in plan investment menus, Vanguard said in its analysis.

While relatively new among Vanguard plans, target-date strategies­ in 2010 accounted for one of every seven dollars of plan assets among those plans offering the strategy. Almost half of participants who were offered target-date funds had an investment in them.

Participants enrolling in defined contribution (DC) plans in 2010 allocated a total of 54% of 2010 contributions to target-date funds—they are the first group of participants to allocate more than half of plan contributions to target-date funds, Vanguard noted.

Nine in 10 plans with automatic enrollment are using target-date funds as their default fund. Whether or not they use automatic enrollment, 75% of all Vanguard plans had selected a target-date or balanced fund as a default investment in 2010. Among the six in 10 plans designating a qualified default investment alternative (QDIA), 89% of the QDIAs were target-date options, and 11% were balanced funds.   

Asking for More 

DoL asked to add to participant disclosure rules

The Government Accountability Office (GAO) suggested that retirement plan sponsors and participants should be made more aware of the risk that some investments may have distribution restrictions.

The agency suggested that the Department of Labor (DoL) amend its regulation on plan sponsor disclosure to participants to include a specific requirement for plan sponsors to provide information to participants that discloses the risks of investing in stable value funds. In addition, the GAO recommends the DoL study stable value funds and the practice of securities lending with cash collateral reinvestment by 401(k) plans to identify situations or conditions where plan sponsors could be prevented from meeting their fiduciary obligations, revise one of its prohibited transaction exemptions, and provide better disclosures and guidance to plan sponsors and participants.

“Labor should revise PTE 2006-16 to include the practice of cash collateral reinvestment by requiring that plan sponsors who enter into securities-lending arrangements utilizing cash collateral reinvestment on behalf of 401(k) plan participants not do so unless they ensure the reasonableness of the distributions of expected returns associated with this arrangement,” one of the recommendations said.

In addition to reading reports from industry experts and current regulations, the GAO conducted a survey of plan sponsors in conjunction with PLANSPONSOR magazine asking about withdrawal restrictions in their plans.

The GAO noted that, between 2007 and 2010, some 401(k) plan sponsors and participants were restricted from withdrawing their plan assets from certain 401(k) investment options, including real estate, money market, and stable value, as well as other investment options that lent securities (the practice of lending plan assets to third parties in exchange for cash as collateral that a fund reinvests). In most cases, the withdrawal restrictions were caused by losses and illiquidity in the investment options’ underlying portfolios and sometimes contract constraints placed on plan sponsors by the investment options.

For stable value funds, and also for those investment options that lent securities, the withdrawal restrictions and their causes highlight the risks that participants face when allocating their 401(k) plan assets to these investment options—and that losses are borne by plan participants, according to the report. In addition, participants often do not understand or may receive insufficient disclosures of the risks posed by these investments, and plan sponsors may be unaware or receive insufficient disclosures of the risks and challenges involved with those investment options and practices, the GAO contended.

“Labor can take a variety of steps to help plan sponsors who offer stable value funds and investment options that lend securities. Many of these steps can draw upon the changes that the Securities and Exchange Commission (SEC) and others already have made, or will make, regarding these investment options and recent suggestions from plan sponsors, industry service providers, and other key stakeholders,” the agency said.

—Rebecca Moore 

Health-Care Expenses Decline­—a Little 

The annual Fidelity Investments estimate of the retirement health-care costs for a 65-year-old couple fell back 8% to $230,000, driven by Medicare changes in the new health reform law. A Fidelity news release said the figure has jumped an average 6% annually since Fidelity issued the first estimate in 2002—of $160,000. According to Fidelity, reduced out-of-pocket expenses for prescription drugs for many seniors resulted in the reduced estimate.  –PA 

Nearly Half of Advisers  

Don’t Focus on Rollovers

In its “Advisor Assets in Motion” report, Cogent Research found nearly 50% of advisers are not winning as many rollover assets as they could be. Cogent divided advisers into three tiers of achievement in capturing the rollover market. “Low” rollover advisers have up to $3 million in rollover assets, “mid” rollover advisers have between $3 million and $5 million, and “high” rollover advisers have more than $5 million in rollover assets. About one-third of advisers would fall into the highest tier, Cogent found. The highly successful rollover advisers convert more retirement accounts, and the size of those accounts is 2.4 times larger, averaging $344,000, than advisers who fall into the second tier in terms of rollover success.   —PA  

Focal Point

Helping Boomers with retirement income ripe for specialization

Less than 5% of advisers have shifted their practice to serve the Baby Boomer market exclusively, but researchers say this percentage is likely to grow.

Howard Schneider, President of Practical Perspectives, and Dennis Gallant, President of GDC Research, have co-authored a report, “Trends in Retirement Income Delivery: Advisor Portfolio Construction, Product Usage, and Sales Support,” the fifth in a series of reports discussing retirement income.

Speaking to PLANADVISER, Schneider addressed how the “hype” surrounding the wave of Baby Boomers reaching retirement is now the reality. “Because they are such a huge group, they transform whatever stage they’re at—parenthood for example. Now, they’re starting to transform retirement,” he said. However, many advisers are still trying to play both sides of the fence, he added; they’re trying to service younger clients in the accumulation phase, as well as older clients facing retirement. Eventually, Schneider predicts, more advisers will realize that serving the Boomer market—specifically in dealing with retirement income solutions—is an area worthy of specialization.

Unlike the accumulation phase, in which virtually every adviser uses a portfolio-planning method, staying within risk parameters, to build a diversified total-return portfolio, Schneider said such an across-the-board method has not yet been adopted in retirement income planning. He said there are three philosophies in the field today. One is to use the same method as the accumulation phase for the retirement phase—about 40% of advisers do it this way, he said. The idea is to stick with a diversified portfolio and withdraw a percentage from it each year.

Different Methods

The other 60% of advisers say this is not wise, as retirees tend to be more risk-averse than those in the work force and should be given a different method. The other two methods are the “pool” or “bucket” approach, and the “income floor” approach. The bucket approach divides assets into groups according to time—a short-term bucket, intermediate-term bucket, long-term, and “long”-long term—Schneider said. The short-term bucket would be for living expenses in the next three to five years. The intermediate-term would eventually become the short-term bucket, and it would need to be refilled, and the long-term buckets can continue to be invested for future use.

The income floor approach takes a retiree’s assets and sets a minimum, sustainable living requirement for the most fundamental expenses, the “nondiscretionary” things such as housing, health care, and food. Everything else—travel, charities, home repair—is considered to be “discretionary” and can be invested in a total-return portfolio (as in the accumulation phase). If the market does well, those discretionary things can be attended to, Schneider explained.

How Can Providers Help Advisers Help Clients?

The report says how mutual fund companies, annuity providers, and broker/dealers have been offering basic support related to retirement income. Schneider explained that this entails tools and calculators advisers can use with clients, basic marketing support advisers can use to target different demographics, and education/training for advisers about rules and regulations regarding retirement income. Providers are focused on reaching the adviser market, because it is the gateway to clients, Schneider said. 

However, Schneider said it is time for the providers to move beyond the basics; clients want answers to tougher questions. They are trying to figure out how they can build a portfolio to last through retirement, in an environment still saturated with risk, and advisers will need to help them find answers.

Schneider said a disconnect exists between providers of retirement income solutions and the advisers and clients. Providers are thinking in terms of income or cash flow; whereas advisers and their clients are trying to look at the bigger picture. “How are they managing portfolios, and providing growth and sustainability to stay ahead of inflation and to make sure they don’t run out of money… it’s not about funding a retirement income product, it’s about management of the whole picture,” he said.

One other challenge that Schneider foresees happening is having Boomers accept the fact that some sacrifices might have to be made. “People are talking about working part-time or starting their own business, but that’s not going to be possible for everyone,” he said, nor will it generate a significant amount of money. Considering the longevity Baby Boomers face, advisers will have to paint a realistic picture for their clients.

Fiduciary File

More plans opt for co-fiduciary advisers

3(21) limited scope investment advisers are used more frequently than 3(38) outsourced investment advisers, according to a Grant Thornton survey.

More than half of plan sponsors surveyed by Grant Thornton LLP, Drinker Biddle & Reath LLP, and Plan Sponsor Advisors LLC work with an ERISA Section 3(21)(a) investment adviser, where both the adviser and the plan sponsor have co-fiduciary responsibilities for the investments for the plan and share in the liability. The plan sponsor makes the ultimate decisions in selecting and monitoring the investments.

Another 14% percent of plan sponsors surveyed engage an outsourced investment adviser (ERISA Section 3(38)) who selects and adjusts investment options without explicit direction from the plan sponsor. The report cautions sponsors to make sure their operating documents specify who is responsible for managing company stock if that is included in the plan.

More generally in the compliance arena, the study found that 77% of plans are offering training to their plan’s administrative/investment committee, but 41% of those did so infrequently and without a set pattern.

Fifty-nine percent of plan sponsors responded that they have conducted one or more tax/legal compliance reviews on their plan in the past three years. Thirty-seven percent of plan sponsors performed general reviews of the entire plan, and 22% limited their review to specific identified issues.

According to the study, the most common corrections involved eligible compensation (16%), participant loan issues (15%), service-crediting issues (15%), improper inclusion or exclusion of participants (14%), and improper distribution issues (9%).

After noting that 47% of respondents reported they have not corrected any compliance problems in the past three years, the study authors declared: “All plans have some level of compliance problems. The 47% of respondents that have not corrected any compliance issues are just not looking for them or, even worse, failing to correct problems once identified. The latter strategy is especially dangerous.”

—Fred Schneyer

Try Again

Appellate court sends back Kraft fee case

A federal appellate court has thrown out a lower court’s decision in favor of an excessive retirement plan fee lawsuit and sent the matter back for further proceedings.

Ruling in Gerald George v. Kraft Foods Global, the 7th U.S. Circuit Court of Appeals contended there were still too many potential disagreements between the two sides, concluding that U.S. Magistrate Sidney I. Schenkier for the U.S. District Court for the Northern District of Illinois was wrong when he ruled for Kraft in the fiduciary breach case.

“In sum, because we find that the record reveals a genuine issue of material fact as to whether defendants breached the prudent man standard of care by failing to make a reasoned decision under circumstances in which a prudent fiduciary would have done so, we reverse the district court’s grant of summary judgment on this issue and remand for further consideration,” wrote U.S. District Judge Lynn S. Adelman of the U.S. District Court for the Eastern District of Wisconsin.

In the original suit, the plaintiffs­ argued that the recordkeeping fees and an employer’s decision to unitize its company stock fund were a fiduciary breach under the Employee Retirement Income Security Act (ERISA).

—Fred Schneyer

Dumb (and Deadly)

The 10 dumbest insurance fraud schemes of all time

Life Quotes, Inc., a life insurance resource center, with the help of the Coalition Against Insurance Fraud, compiled a list of the 10 dumbest insurance fraud schemes of all time.

Jim Quiggle, spokesperson for the Coalition Against Insurance Fraud, told Life Quotes that “[People are driven by] desperation, greed, and a lack of common sense; it depends who you are, how bad the economy is, and how much your finances are affected.” He added: “Among average consumers, mysterious disappearances and theft are the most popular schemes…it’s easy to say someone stole my camera, or I lost my watch at the beach. Fake health insurance plans are also very popular with the struggling economy because people are desperate to get health coverage, and organized criminals are doing a very effective job selling bogus health insurance plans.”

Here are its three dumbest insurance fraud schemes of all time (the full list can be found at www.planadviser.com/Dumb_and_Deadly_Insurance_Fraud_Schemes.aspx):

#3: Massachusetts-based Ronald and Mary Evano had a strange tradition before going to restaurants, bars, and grocers: glass-eating. For eight years, the duo filed more than $200,000 in fraudulent claims using fake IDs and Social Security cards. Often, the insurers and businesses paid out to avoid a lawsuit, but this was not without a physical price. The Evanos braved medical danger to pull off this scam, which included glass in their intestines and colon, vomiting blood, and having to pass glass fragments. Ronald was arrested and charged in 2006, and Mary, who spent years on the run pretending to be a psychic, was finally captured in early 2010.

#2: Michael Paul Schook was a Suffield, Connecticut-based ex-con with a lot of debt and a big mouth. Not only was his house in foreclosure, but his car was repossessed and he owed thousands on credit cards. Desperate for money, Schook decided to set his house on fire to get $250,000 by leaving a fat-filled pan on the stove as he left the house with his family. The house indeed burned down, but it was no surprise to anyone; turns out Schook had told everyone who would listen about his future plans to burn his own house down. His children told their classmates, who reported it to school officials and notified police. Schook received seven years in prison for his grease-fire debacle.

Finally, the dumbest insurance fraud scheme of all time, according to Life Quotes, Inc. is:

#1: Clayton Daniels was very familiar with breaking the law: After sexually assaulting a 14-year-old girl and deferring his 10-year sentence, he never reported to his probation officer. To avoid going back to jail, Clayton and his wife, Molly, dug up the grave of Charlotte Davis, an elderly woman who had been dead for almost a year. They dressed her in Clayton’s clothes, put her body in a car, lit it on fire, and pushed it off a cliff. They hoped the life insurance company would believe the burned body was Clayton and pay $110,000 in benefits.

However, the insurer would not pay out until a DNA test confirmed the body was indeed Clayton. Just weeks after the accident, Clayton came back with dyed hair and a moustache and was introduced as Molly’s new boyfriend, Jake Gregg. However, some things didn’t add up in the investigation: Molly was “eerily calm” in post-crash interviews; there were no signs of an accident at the crash location; investigators discovered the fire started in the driver’s seat of the car and not the fuel tank; and DNA did not match up.

The complex plan was also discovered in great detail on her computer, including Internet history of how to burn a human body beyond recognition and how to create a fake identity. The scheme landed Molly with 20 years for insurance fraud, and 10 years for hindering Clayton’s arrest. Clayton is awaiting trial on arson charges, and he will serve no less than 10 years for desecration of a cemetery and 15 years for arson.

“These people get caught for various reasons; maybe they get greedy and then sloppy, or they just didn’t plan very well to begin with,” said Quiggle. “However, some schemes are very well constructed, and insurance companies need to do very detailed investigations to uncover a well-concealed crime.”