Rating Your 401(k) Plan Administrator

Rating Your 401(k) Plan Administrator

Two years ago, a survey asked a sampling of Americans whether, if they had a choice, they would prefer more money or a better boss. Since most of us are a bit cash-hungry, one might think the answer would be the former. But instead, the survey found a sizable majority (65%) would actually pick a better boss.

Some observers quibbled with the findings, hinting the individual conducting the survey, who happened to be a consultant, had something to gain by suggesting American firms could benefit greatly from training a better crop of leaders.

But not me.

Having suffered the experience of working for some of the worst bosses in history, I tended to buy the research findings lock, stock and barrel. It made perfect sense to me that people would select an improved boss over more cash. With a better boss, they’d likely work harder, rise faster and end up with more money, anyway.

Additional questions

Given that the survey suggests American bosses aren’t doing a great job, and should be replaced, it’s logical to ask what other related findings might follow. Is it possible that not just your immediate boss is inept, but other higher-ups in the company are too? Could one of those be the 401(k) plan administrator, charged with selecting the mutual fund options offered employees?

That’s an important question, given the fact that defined contribution plans, usually in the form of 401(k) plans, are a much-relied-upon fount of American workers’ retirement savings.

Research by Edwin J. Elton and Martin J. Gruber, professors emeriti and scholars in residence at New York University’s Stern School of Business, and Christopher R. Blake, professor of finance and Joseph S. Keating, SJ, Distinguished Professor of Business at Fordham University, offers insight.

Their brief, “How do Employers’ 401(k) Mutual Fund Selections Affect Performance?” was recently published by the Center for Retirement Research at Boston College. After reading the brief, one might be forgiven for conjecturing that the ill feelings many hold for their immediate bosses would also be apt when thinking about their employers’ 401(k) plan administrators.

The brief’s authors evaluated the performance of administrators in two ways. First, they looked at how well each plan’s mutual funds fared compared to benchmark indices and to a random sample of similar funds. Second, they probed how well funds added or dropped from plans by administrators performed both before and after the switch.

Active or passive?

Examining their data, the authors noted performance of plans fell well below comparable indices, and the size of that deficit was larger than the cost of low-cost index funds. The obvious takeaway: If passive index funds had been chosen instead of the active funds the administrators selected, performance would have been better.

Plan administrators did pick funds that outperformed randomly selected sets of funds, though the differential was a not-exactly-giant one-half to one percentage point annually. However, the results showed the administrators in less favorable light when another consideration was factored in. Fees in the mutual funds selected by administrators were 23 basis points lower than those in the random set. That accounted for almost half of the superior results.

As mentioned, the authors went on to examine whether changes in mutual fund offerings led to differences in 401(k) investment performance. Studying the performance of funds added and dropped by administrators for three years before and after the switch, the authors found added funds outperformed dropped funds by an average of 277 basis points yearly prior to the changes being made.

If administrators were making the right moves, you’d expect that level of outperformance to continue after the change. But no. After the switch, the funds that were added to 401(k) plans did more poorly than they had before, while the funds that were dropped did better. The differences afterward were not statistically significant, leading the authors to conclude that the performance-chasing plan administrators’ efforts to fine tune fund selections had essentially no impact on the overall performance.

Their own worst enemies

The authors’ brief also examined the performance of plan participants, and those findings offer participants little reason to gloat. The authors examined whether participants’ performance when selecting funds was better or worse than it would have been had they just spread their investments over all funds offered, a strategy referred to as the 1/N rule.

The findings revealed participants’ selections fared more poorly in every instance, though the differences were not statistically significant. Essentially, participants were no better off making selections than they would have been just spreading their cash equally between every fund offered.

Putting all the findings together, maybe that survey mentioned at the outset shouldn’t have asked whether respondents would prefer a big fat raise or a far better boss. Maybe it should have asked fi they’d like both. If that question is ever asked of people who have had some of the same kinds of experiences I’ve had in the workplace, I’m willing to bet on near unanimity from respondents.

3 Responses to “Rating Your 401(k) Plan Administrator”

  1. Anonymous

    Just to play the devil’s advocate for a second; plan administrators operated with a fiduciary responsibility to their clients/retirement plan. It’s often very difficult to create investment options for such a plan due to the wide variety of financial goals, risk tolerance, and other related issues associated with the members of the plan. This is why many people end up rolling over to an IRA – so that they’re able to receive personalized advice from their financial planner that is much better suited to them.

  2. Anonymous

    Interesting finding that people would have been just as well off spreading out their investments among all options rather than choosing themselves… I still feel like if you “do your homework” you can beat the overall average, maybe not.

  3. Anonymous

    Our plan has some great options and has many index funds and target retirement date type funds. I do work for a very large company though so that probably affects the amount of attention our fund selection received

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