Smaller Plan Sponsors More Likely to Default to TDF that Moves to Managed Accounts

In recent years, retirement plan advisers have been discussing the potential benefit of dynamic qualified default investment alternatives that shift participants from target-date funds into managed accounts, but those conversations have not led to widespread plan sponsor adoption, according to advisers and recent data.

Many advisers say they see value in a dynamic, or hybrid, QDIA that starts a participant out in a TDF and shifts them later in life to a more personalized managed account to help manage their retirement saving and income strategies. But having plan sponsors buy into that offering has been a challenge.

Mark Olsen, managing director of plan advisory PlanPILOT, says despite consistent education on the benefits of a dynamic QDIA, only about five clients are using the option. “I think we’ve done a good job educating people, but we haven’t seen very much adoption,” he says.

The plan consultant says the success of TDFs is without question, with 95% of defined contribution plan clients leveraging them. But when it comes to discussing the need for older workers to get more personalized—and more expensive—attention by being transferred into a managed account, retirement plan committees often balk.

“As with many things in the HR space, no one really wants to be the first one to do it,” he says.

According to consultancy Cerulli Associates, while hybrid QDIAs have not been going gangbusters, there has been some positive movement in recent years. In the latest data available from a survey of target-date product managers, 11% of assets were held in dynamic QDIAs as of year-end 2021, up from 2% in 2019.

In a separate survey of 23 defined contribution consultants by Cerulli in 2022, 5% of their plans are using a dynamic QDIA. Of that group, the ones most likely to use the product were retirement aggregators focused on mid-market plan sponsors, says David Kennedy, a senior retirement analyst for Cerulli.

“Managed accounts are one of those things that are a great idea on paper, but there’s a ton of complexity when actually implementing them,” Kennedy says. “I’m not sure if [adoption] is going got be up to plan demographics as much as it’s going to be up to the people running the plan at the plan sponsor level, and how good of a job the consultants do positioning it as well.”

Dynamic QDIAs, Kennedy notes, are still fairly early to the market, having come onto the scene about seven years ago but only getting attention in recent years.

Empower Retirement was an early mover, bringing an offering to market in 2017. More recently, Lincoln Financial and Stadion Money Management announced a dynamic QDIA in 2022, and both John Hancock Retirement and Principal Financial Group announced offerings in 2023.

Litigation Concerns

Kerry Bandow, head of defined contribution solutions at Russell Investments, says he loves the idea of dynamic QDIAs and once worked with a client who defaulted participants directly into a managed account, skipping the TDF. In that case, the plan paid the fees, so it was essentially a “free managed account for participants.”

Currently, however, Bandow is working with plans of $10 billion or more in assets, and none are currently interested in the dynamic QDIA option.

“When you look at a managed account and, depending on plan size, [the cost] can be 20 or 25 basis points on plan assets [for a large plan],” he says. “When you can get plans using target-date funds that are 5 basis points … it can be really hard to justify. That’s particularly the case when participants don’t engage.”

That engagement issue, Bandow says, can be a real stumbling block for plan sponsors who are skeptical of getting participants to put the managed account to use. That said, Bandow still finds the option compelling.

“When participants get closer to retirement—when the end zone is in sight or the end of the tunnel is in sight—then they start to engage more,” he says. “That’s the beauty of the hybrid approach: Let’s just get people to save now and use auto-enroll and auto-escalation to save at the right level … and then once it becomes more meaningful and they are paying more attention, flip them to a managed account, which they can engage with, or those that can, of course, opt out.”

When speaking to recordkeepers, Bandow, has heard, in line with Cerulli’s research, that smaller plans are more likely to use the dynamic QDIA option. That’s in part, he says, because they are less concerned with getting hit by the retirement plan litigation that is a major concern for mega-plans with billions in assets.

“Litigation really inhibits advancement in DC,” Bandow says. “If you are over a billion dollars, you have a target on your back, because that is a lot of money to extract a settlement from. Really, the large-end marketplace—as much as I’m supportive of it—nobody wants to go there, because they don’t want to be the first to do it.”

Concept vs. Reality

“We’re not necessarily seeing plan sponsors ask for managed accounts, but personalizing any benefit (retirement or otherwise) is always something employers are interested in,” Craig Stanley, financial adviser and lead partner for retirement plan consulting in Summit Group, an Alera Group company, wrote in an email.

Stanley said his team has discussed hybrid QDIAs with clients and has seen “some movement toward this hybrid approach.”

“For those approaching their distribution years and having a more predictable set of assumptions, we believe a managed account can certainly provide value and personalization, even if they have not yet engaged,” he says. “For example, having your retirement assets in a portfolio of several distinct investments (unlike an all-in-one target-date fund) may provide a retiree with additional flexibility when taking a partial distribution—allowing them to target what investments are sold in order to avoid selling certain investments at inopportune times.”

But Stanley also notes that “there is usually a difference between conceptual value and practical reality that has to be considered.”

“The likelihood of engagement will increase significantly as the participants begin receiving communications from the managed account provider, especially as their time horizon shrinks and the idea of retirement becomes more of a priority,” he notes. “We are also beginning to see some managed account providers go above and beyond just focusing on investment allocations by also delivering guidance on claiming Social Security, how to structure sustainable retirement income distributions and other value-add services that can help justify the additional fee a managed account may bring.”

Olsen, of PlanPILOT, says he has seen greater interest and traction when discussing embedded retirement income products with plan sponsors. He says a combination of people getting over a misperception perception of annuities and a down market for both equities in fixed income and stocks during calendar year 2022 has made plan sponsors interested in the guaranteed income conversation.

“You’re putting [participants] into something that is going to offer protection,” he says. “That makes plan sponsors feel good, like they are helping people to help themselves.”

That can be a more compelling offer, he says, than telling people that participants are going to be transferred into a higher-cost managed account that should, with engagement, produce better outcomes.

Kennedy also notes that dynamic QDIAs, as a product, are “growing up” in a retirement plan market that has been managing through 2019’s original SECURE Act, the COVID-19 pandemic and now the SECURE 2.0 Act of 2022, all in the past three years.

“It doesn’t surprise me that they took a lower-level priority compared to those other things in the world,” Kennedy says. “But maybe going forward, once those things calm down, we’ll see more people concentrating on these new products and adopting them in their plans.”