Press

Assets in defined contribution plans keep growing, but so does the scramble for relevant investment solutions as plan sponsors remain focused on low fees.

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Bill Ryan, a partner in and the defined contribution team leader at NEPC LLC, agrees that the firm is continuing to see “heavy cash flow” into target-date funds for all ages—including those older than 65 who are keeping their investments in-plan for longer.

“We’re going to continue to see target-date funds take market share away from the core lineup in the next 12 to 18 months,” Ryan says.

The makeup of TDFs is not sitting still, he notes. Some providers are creating more aggressive glide paths for investors younger than 65 so they do not fear losing out on growth.

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Meanwhile, NEPC’s Ryan says, his team has been interested to see some of the largest passive fund managers coming to market with competitively priced active funds. He believes these offerings will pull money away from the traditional active managers to those large passive fund managers to the tune of some $8 billion in the next 18 months. While that may be small compared to the $3 trillion in actively managed funds, it could seriously shift the market for active funds over the long term.

“I think with the passive providers being able to offer more moderate to aggressive off-the-shelf products, that puts a lot of pressure on the active managers in the space, as, historically, they were the only ones out there [with such offerings],” he says. “If you like a higher-risk posture but at a low-cost entry point, you now have a choice.”

The challenge for active managers working with large caps, Ryan notes, is the dominance of the Magnificent 7 tech stocks of late, because active managers may have restrictions on what percent of investments can be held in a single or group of stocks. Even if that is only causing relatively short-term underperformance, it could trigger plan fiduciary monitoring for the funds to be reviewed or replaced.

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But Ryan of NEPC notes that recent 401(k) litigation has resulted in “unfortunate press” that may crimp managed account uptake. Ryan notes recent complaints responding to managed account use by providers TIAA and Morningstar and engineering and construction company plan sponsor Brechtel.

The strain has been taking its toll on clients, he says, with a handful of NEPC clients “voting to terminate managed accounts” from their plans, representing “in the neighborhood of $3 billion.”

Ryan, whose NEPC has, in the past, been critical of the fees charged for managed accounts, says there will likely be further pullback from offering the personalized savings vehicles to investors, in part because of further litigation that may drop.

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Finally, Ryan of NEPC notes that in the next six to 18 months, “we are going to be in a very different interest rate environment,” with the Federal Reserve likely to move rates lower.

NEPC predicts that new market environment will bring back interest in stable value funds, which had been displaced by safer investments, such as money market funds, that could guarantee strong returns on the back of high interest rates. As rates fall, stable value “is going to pop,” Ryan forecasts.

“Stable value has a structural advantage and likely has weathered the storm of higher interest rates,” he says.

Well over 100 U.S. corporate 401(k) plans made changes to their investment option lineups in 2023. That’s nearly double the number that disclosed changes the previous year, with 401(k) plans in 2023 saying changes to active domestic large-cap growth equity options dominated

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There has also been turnover among portfolio managers of active large-cap growth funds, with a number of them choosing to retire following the COVID pandemic, said Bill Ryan, partner and head of defined contribution solutions at investment consultant NEPC. Those departures just happened to occur while there was this large dispersion in returns.

“(This) creates triggers in investment policy statements,” said Ryan, “so if you have key staff changes and performance challenges, you hit two things that people look at. So while the performance in isolation might not have triggered a change, the portfolio manager changed and the performance is down.”

Managed accounts have been around for more than 20 years as a defined contribution plan option, but the tailored investment vehicles have evolved considerably over the years, allowing plan sponsors to consider them as a tool to offer a retirement income solution to their participants.

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Institutional demand for outsourced CIO services motored ahead in 2023, even as the baton in the race to drive industry growth showed signs of passing from defined benefit pools to endowments, foundations and defined contribution plans.

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NEPC’s 73% gain in worldwide institutional outsourced AUM to $106.6 billion for the year through March 31 was powered by a combination of new DB and DC clients, said Scott Perry, a partner and head of portfolio strategy with the Boston-based consult and investment house.

“We had a number of large defined contribution programs that engaged us for OCIO mandates … and then there were a lot of advisory clients that we had relationships with that asked us to play a bigger role in their investment programs,” he noted.

Outsourced CIOs reporting a growing number of pension risk transfers by defined benefit clients they’ve guided to full funding could be forgiven for looking at the DB portion of their businesses as a wasting asset.

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IBM’s example has “caught the eye of other pension plan decision-makers,” agreed Scott Perry, a partner and head of portfolio strategy with Boston-based consultant and investment house NEPC, leaving some considering a different way forward now that could shift the balance between DC and DB “a bit.”

Efforts underway now to come up with outsourced CIO reporting standards could be one means of making what remains a crowded, opaque market segment easier for institutional clients to navigate.

Or not, depending on whom you ask.

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Scott Perry, a partner with Boston-based NEPC, counts himself among the optimists, holding out hope that an ongoing CFA Institute exercise charged with creating rules of the road for OCIO reporting could lay the groundwork for more consistent reporting of OCIO track records and performance over the coming six to 12 months.

He said coming guidelines — “an important next step for the rapidly expanding OCIO solutions market” — should help stakeholders make more informed decisions about the options available to them.

“Historically, it has been hard for stakeholders to do an apples-to-apples comparison of OCIO track records,” Perry noted.

The coming guidelines, while not perfect, will move in the direction of making such comparisons possible – considerable progress for a market segment that retains “a little bit of the Wild West” about it, he said.

The clubby world of private credit seems to be running out of space for the little guy.

As the rush of money into Wall Street’s hottest market slows, life is getting especially hard for firms that already oversee a smaller amount of capital.

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“An LP looking to put $400 million to work has already cut out all of the smaller managers,” said Oliver Fadly, head of private debt at NEPC, a consultant to limited partners. “Big check investors that have already allocated to larger firms are now looking at the second wave of mega-cap lenders, not newer, smaller ones.”

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NEPC saw continued progress in 2023 in making diversity, equity and inclusion work for its clients, despite an uptick in political headwinds, with goals set years before within reach and consideration of next steps underway, said KC Connors, a Minneapolis-based partner and member of the consulting/OCIO firm’s diverse manager committee.

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While acknowledging DEI’s recent emergence as a political football, Connors said “despite the winds shifting in this area,” NEPC remains committed to working toward greater diversity, equity and inclusion in the interests of its clients.

Consultancy NEPC’s defined contribution team argued in a white paper released Monday that the return on investment from one-time savings advice for early to mid-career participants in a managed account will not offset the ongoing fees.  Instead, the firm advocates for plan sponsors to consider automatic escalation as a way to boost savings outcomes for participants.

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The firm undertook the paper, in part, as it works with plan sponsor clients who are at times “getting pushed to add this feature,” says Mikaylee O’Connor, principal, head of defined contribution solutions at NEPC.