Automatic investing is on the rise in defined contribution (DC) plans. The trend signals a clear shift from participants making their own investing decisions to increased reliance on employer-selected default investment and advice programs.
It’s a logical transition that’s been happening gradually over the past decade or so since the landmark Pension Protection Act was passed in 2006. That legislation provided plan sponsors the flexibility to offer three fiduciary-protected qualified default investment alternatives (QDIAs): target date funds (TDFs), other balanced funds, and managed accounts with advisory services. QDIAs are automatic, professionally managed investment programs designed to help combat participant inertia, procrastination and lack of engagement with the plan. All of these issues are symptomatic of an absence of general investing knowledge, which we know many participants lack. As such, another beneficial “side effect” of QDIAs is they’re also designed to help improve participation and portfolio allocations, thus creating potentially better retirement outcomes.
Vanguard’s 2017 “How America Saves” survey points out the rising uptake of automatic investment programs in DC plans. At the end of 2016, more than half of participants were invested in an automatic investment program only. That’s compared to just 17% at year-end 2007.
Breaking that down among the three professionally managed QDIA options, 46% of participants used just one target date fund, another 3% held another balanced fund, and 4% invested via a managed account service. Another interesting finding — among first-time participants who entered a plan in 2016, 85% invested only in a professionally managed option.
Target date funds remain the most popular default option. Nine out of 10 Vanguard plan sponsors offered TDFs at the end of 2016, and 97% of participants are in plans with target date fund options. A full 72% of all participants use target date funds. Two-thirds of participants who own TDFs invested their entire account in a single target date fund, and 46% of all Vanguard participants are wholly invested in a single target date fund, either by default or by choice.
While automatic investing is key for improving outcomes, the ability to select their own investments is still important for participants. Half of single target date fund owners chose the fund themselves, not through default.
Nonetheless, given the continued rise in popularity of target date funds, Vanguard projects that three quarters of participants will be invested in an automatic investing program by 2021.
That’s a telling prediction worth paying attention to. Given Vanguard’s belief that automatic investing will continue to play an important role in retirement readiness in the coming years, there’s no better time to review your investment program to make sure you’re offering options that meet your participants’ needs and help them overcome any apprehension they may have about investing.
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