It’s time to take stock.
The fallout from the coronavirus crisis has injected greater volatility and uncertainty into the stock market, punishing some retirement savings portfolios and creating more than a little anxiety on the part of retirement savers. Investment considerations such as risk tolerance, time horizon and investment objectives take on a renewed importance in such environments.
As an employer that sponsors a 401(k) or other retirement savings plan, you might want to assess how well your retirement plan participants’ portfolios have held up to the recent correction. Are your employees worried about their retirement savings? Are they assuming more risk than perhaps is prudent? Do you have pre-retirees who may now be contemplating a change in plans?
The recent market correction provides both retirement plan sponsors and participants with an opportunity to evaluate asset allocations within their portfolios and how best to manage those investments going forward. Participants and sponsors should consider whether they have the necessary tools and investment strategies to take advantage of potential gains as well as to weather future storms.
While the pandemic represents unchartered territory, the turmoil roiling the markets has historical precedent. Before the Coronavirus, investors had endured 26 stock market corrections and 12 bear markets since World War II, according to an analysis by Goldman Sachs and CNBC Research.1 You can add one additional correction due to the pandemic.
A market correction is defined as a decline of at least 10 percent from a 52-week high close in the S&P 500, Dow Jones Industrial Average or other major stock index. A bear market is a 20 percent decline from a market high.
The good news is that markets have historically bounced back from both corrections and bears, sometimes within months, sometimes within years. The bull market that followed the steep decline during the 2008-’09 financial crisis turned out to be the longest in history, according to The Leuthold Group.2
Yet, nearly eight in 10 pre-retirees and retirees — those within 15 years of retirement —said they were very or somewhat concerned about a major downturn in the stock market, according to the MassMutual Retirement Savings Risk Study.3 Nearly as many worried about volatility. Those sentiments were taken in 2019, near the height of the bull market.
Anxiety about market corrections and bears are well founded, especially if investors have retirement in their sights or have recently retired. Plan sponsors may help alleviate some of that anxiety and better position investment portfolios against downturns by offering investment products to suitable investors such as target date funds (TDFs), managed accounts and stable value funds that help participants better manage their retirement portfolios as they get closer to retirement.
Both TDFs and managed accounts provide investors with a pre-established asset-allocation path towards retirement to help ensure their investments stay on course. Both strategies rely on “glide paths” that reallocate assets away from stocks and to bonds and other fixed investment instruments as savers approach retirement. The goal is to increasingly reduce the impact of volatility and declining markets on retirement savings as investors age, avoiding a major hit to investments just before investors are ready to retire.
TDFs are also known as lifecycle or age-based funds because they allocate assets based on a retirement saver’s age. Time horizon rules the strategy as younger investors can typically expect to find a higher allocation of stocks – sometimes as high as 90 percent -- within their retirement investment portfolio. Older savers who are presumably closer to retirement are more likely to have a lower percentage of stocks and a higher percentage of bonds to reduce the impact of market volatility, mitigate risk and preserve capital.
But there are important differences between different TDF families so sponsors should work with their financial professionals to determine what might make sense for their workforce. TDFs from different money managers can vary in terms of their relative risk profile, with some having a higher or longer bias towards stocks and others favoring a more conservative approach. There are also differences in terms of how different TDF families are managed, with passive, active and hybrid approaches.
Managed accounts also provide investment glide paths but with one important difference: they take a more personalized approach that some retirement savers prefer. While managed accounts take age into consideration, they may also adjust asset allocations for factors such as individual risk tolerance, other available retirement assets such as a pension, IRA or 401(k) with a former employer, personal debt levels, life stage, income level or even geography.
The additional customization available from managed accounts typically also means higher fees as compared to a similar TDF, so sponsors need to evaluate such considerations with their financial professionals. In some instances, a sponsor may wish to incorporate both TDFs and managed accounts within a retirement plan to offer a wider variety of investment strategies to address different employee preferences.
Some TDFs and managed accounts incorporate stable value accounts as a fixed-income allocation. Stable value funds are available as fixed-income or capital preservation investment options through 401(k)s and similar employer-sponsored retirement plans. The funds are typically composed of high-quality corporate or government bonds, with longer maturities and higher yields than money market funds or similar fixed-income products. An insurance company puts the “stable” in stable value funds by guaranteeing a minimum return backed by its financial strength and stability.
Stable value accounts can also be offered to suitable investors as a separate investment choice within a retirement plan in lieu of other fixed income investments such as bond funds or money market accounts.
Looking at the market in historical terms, corrections and bear markets come and go. They often create heightened anxiety among investors but with the right strategies, can be managed both in the short and long term.
The most recent correction provides a reminder for both retirement plan sponsors and participants that markets do move both up and down, often in unpredictable ways. Incorporating investment strategies that help manage the impact of uncontrollable market events can help alleviate future anxiety and keep retirement savers on the path towards their ultimate goal.
Generally, target date funds are designed to be held beyond the presumed retirement date to offer a continuing investment option during retirement. The principal value of these funds is not guaranteed at any time, including at the target maturity date.
1Goldman Sachs and CNBC Research, Here’s How Long Stock Market Corrections Last and How Bad They Can Get, CNBC.com, February 2020, https://www.cnbc.com/2020/02/27/heres-how-long-stock-market-corrections-last-and-how-bad-they-can-get.html
2The Leuthold Group, This is Now the Best Bull Market Ever, CNBC.com, November 2019, https://www.cnbc.com/2019/11/14/the-markets-10-year-run-became-the-best-bull-market-ever-this-month.html
3MassMutual Retirement Savings Risk Study, https://www.massmutual.com/static/path/media/files/mm percent20risk percent20study percent20report.pdf