403(b) Curriculum Library

Retirement Plan Investment Lineup Construction for Future Markets

With all of the attention paid to retirement plan fees and the associated lawsuits, plan sponsors and their retirement plan committees tend to be very focused on ensuring that plan investments provide consistent long-term performance, are competitively priced, and offer good diversification.  This helps enhance the experience and retirement account accumulations for participants in the near-term.  However, potential concern over future market returns has led some plan sponsors to plan for new investment lineup construction that will respond to the changing market conditions.

Most defined contribution plans have investment lineups comprised of an array of mutual funds.  Other investment vehicles may include white labeled funds, Collective Investment Trusts, or separate accounts, depending on the plan sponsor’s priority, and often influenced by the size of the plan. But mutual funds tend to be the most popular investment vehicle for these plans.

One of the concerns for investing in the future is the prediction by some analysts that market returns will decline from their historical averages.  Some investment experts forecast that equity markets will not generate the same level of investment returns as compared to the past.  “Expected returns for a simple balanced 60/40 stock-bond portfolio are down by around 75 bps and reinforce our view that static balanced allocation has run out of road; investors seeking to boost returns will have to increasingly consider alternative assets, new avenue of diversification.”* Retirement plan sponsors are beginning to recognize that for participants to experience the asset growth required to sustain their lifestyles in retirement, they may need to work longer, contribute more, or find alternative investments to enable the necessary asset growth.

Many plan sponsors use an investment lineup strategy that divides the investments into three tiers.  The first tier offers asset allocation funds, generally a target date fund series that enables participants to be well-diversified just by selecting one option (these are typically the default investments for the plans).  The second tier consists of a broadly diversified array of funds in a variety of asset classes.  This is usually a collection of 15-25 investments that allows for participants to develop their own asset allocation strategy among several fixed income and equity options, including both active and passive choices.  The third tier is often a self-directed brokerage account that provides the most flexibility and choice for participants to determine their investment portfolio.

With the concerns over potential reduced future market returns, plan sponsors have been focusing more attention on the types of options they offer in the second tier, and how those options will allow participants to achieve sufficient investment returns.  As referenced above, some plan sponsors have turned to white-labeled funds.  These are investments that have no investment manager branding (such as Fidelity or Vanguard), and instead use names like “Large Cap Blend” fund.  The generic investment can combine multiple investment managers and strategies while being packaged in a lower cost investment vehicle.  This cost savings is passed onto participants and helps to improve the overall performance.  

Collective Investment Trusts are another investment vehicle that helps reduce costs for participants.  These investments pool assets from multiple sources to help gain economies of scale.  While they have long been incorporated into defined benefit plans, as sponsors seek to reduce costs, they are becoming popular in defined contribution plans as well.  (It should be noted that these types of investments are available to 401(k) plans, but not permitted in 403(b) plans.)

Another strategy is to find alternative investment options to incorporate into the investment array. As the large-, mid- and small-cap domestic investment categories demonstrate more correlation between their investment perform-ance, plan sponsors and their advisors seek investment options that help broaden the opportunities for diversification.  These typically include asset classes such as emerging market equity, emerging market fixed income, and real estate. The alternative investments may also incorporate hedge funds and other similar investments.  Adding these types of options into the plan allows participants to develop asset allocation strategies that broaden diversification and may help in preparing for the projected future reduction in returns.

Though these alternative asset classes maintain lower correlation with more traditional retirement plan investments, they may carry higher levels of investment volatility.  Thus, adding alternative asset classes comes with some drawbacks.  Financially savvy participants will be in the position to evaluate whether these investments make sense in trying to meet their retirement objectives.  However, less knowledgeable participants may have the potential to harm their retirement savings accounts if they do not properly understand the risks associated with each alternative option. 

Another strategy to consider is smart beta.  This strategy seeks to incorporate the benefits of active and passive management into a simple product.  The goal of smart beta is to enhance returns, lower volatility, and reduce fees, all to the benefit of participants.

Smart beta strategies attempt to surpass the market returns from traditional market capitalization weighted portfolios.  They may use accounting metrics, such as sales or cash flows, or other qualities, such as momentum or size, in determining the underlying investments.  The portfolio incorporates investment opportunities that fit the intended profile and weights the exposure to each based on the requirements of the strategy.  These strategies typically contain limits on volatility to which the manager must adhere to afford downside protection to investors.  However, similar to the alternative investment strategy described above, plan sponsors may experience difficulties fostering participant understanding of what smart beta strategies attempt to accomplish and what that means for participants.


Plan sponsors considering the adoption of one or more of these strategies have many elements to take into consideration.  But, first and foremost, they must understand their employee population.  It may be worth analyzing the current usage of the investments in the plan to better assess employee engagement with, and knowledge of, the plan options.  Depending on this evaluation, plan sponsors may decide that an alternative strategy is viable for the plan, or that the potential downside to participants misusing an investment is not worth the potential gain.  Plan sponsors should work with their advisors to learn more about the various strategies their retirement plan employs to help protect participants from the market return reductions that may be on the horizon.

*JPMorgan Asset Management, 2017 Long-Term Capital Market Assumptions

Note: This feature is to provide general information only, does not constitute legal advice, and cannot be used or substituted for legal or tax advice.

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