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10 Years ‘After,’ Part IV – Bracing for the Next Crash

A decade ago this past weekend, Lehman Brothers filed for bankruptcy. Shortly thereafter Merrill Lynch sold itself to Bank of America, and AIG reached out to the Fed for a bailout. In this final excerpt from the fall issue of NAPA Net the Magazine, seven of the nation’s leading advisors look back at the 2008 financial crisis.

So, what can plan advisors do proactively to limit the impact of the next market crash on participants? Here are some final thoughts.

Ramp up Help for Participants Nearing Retirement

Most companies that implemented auto-enrollment did it just for new hires, which means that their newer employees — in a QDIA and deferring at healthy rates — can better withstand a big market downturn. “Many longer-tenured employees still are vulnerable, because of their asset allocations and because they haven’t saved enough,” Randy Long, founder and managing principal at SageView Advisory Group, says. “Putting in 4% a year isn’t going to get you to a safe and comfortable retirement.” Reenrolling existing employees into a plan’s default investment has gained some traction the past few years, but many sponsors still see changing a long-time participant’s chosen asset allocation as too heavy-handed, he says.

If many employers won’t go for reenrollment, Vince Morris, president, financial services at Bukaty Companies is asked, what can advisors do to help protect employees nearing retirement? “I think we need a service model for participant advice that incorporates more than just investments,” he says. “It needs to include not only the accumulation phase, but the deccumulation phase, and things like Social Security optimization.”

The 2008 crash put a spotlight on sequence-of-returns risk, especially for people close to retirement, says Jim O’Shaughnessy, managing partner of Northbrook, Illinois-bases Sheridan Road. The firm has a service it calls Income Lens in the works, focused on individualized distribution-phase advice for participants. This service, costing $500 to $750 per person, primarily will target participants within seven to 10 years of retirement.

Income Lens will include investment advice but not related investment products, as it will be agnostic about the investments a participant utilizes, O’Shaughnessy says. The program will utilize a “bucket” approach to asset allocation for retirement. “We are trying to take out some of the sequencing risk for participants close to retirement,” he says. “Our experience is that when people go into retirement or are nearing retirement, they want very little risk.”

The service also will offer individualized advice on key decisions such as drawdown strategies. “These assets are to be used to create income. It’s just that, as an industry, we haven’t really worked with participants to help them understand how they can implement that,” O’Shaughnessy says. “We are trying to give these participants the hand-holding they need, and to help them look at their situation holistically.”

Incorporate Participants’ Actual Risk-tolerance Levels More

The biggest problem in a market crisis comes from participants panicking and deciding to abandon the stock market entirely, Morris says. “I see a solution in having customized portfolios, so participants have more of a managed account-type allocation,” he says. They would get an allocation matching their personal risk profile, plus access to professional advice and counsel, as investors long have had on the wealth-management side. “When the ’08 crash happened, a lot of concerned wealth-management clients called us and said, ‘What’s going on with the market? This looks crazy.’ And we could talk them off the ledge. We can tweak someone’s allocation to be less volatile, but going to cash is never a good option.”

Bank of America Merrill Lynch sees growing interest in managed accounts among sponsors who want a more individualized solution for participants, Steve Ulian, managing director at Bank of America Merrill Lynch says. “A managed account is much more of a risk-based tool than a target date fund,” he says. Participants in one of its client plans can sit down with a financial advisor, or talk with a registered rep on the phone, to learn more about their individual risk tolerance and about where they stand with their retirement savings. “We help walk them through the managed account (risk profile) questionnaire, and where they are today,” he says. “When it comes to participants truly understanding their situation and their risk tolerance, it’s that one-on-one dialogue that makes the biggest difference.”

And some target date funds now put a lot of emphasis on downside protection. In 2015, Pensionmark partnered with BlackRock to launch custom target date funds called the Pensionmark SmartLifecycle Funds. “We had surveyed our employer clients and their employees about what they want,” Troy Hammond, founder, president, and CEO of Pensionmark Financial Group says. “We learned that consistently, participants have 10 times the aversion to a loss than their attraction to a gain. Participants kept saying to us, ‘I just hate losing money.’ So we started to think through, ‘How can we better protect participants from a loss?’”

Pensionmark Smart Lifecycle Funds have 50% to 60% of the volatility of a typical target date fund, Hammond says. The index-based target date funds utilize the “smart beta” strategy to limit risk on the downside. The asset-allocation pie looks similar to other target date funds. But rather than having cap-weighted indexes, the smart beta approach removes the most-volatile stocks within an index from that index fund.

Hammond says he 100% thinks it’s worth sacrificing a little upside to get more protection and participant comfort on the downside. “What I have at the end of 30 years of saving as a participant is based on my compound return, not my average returns,” he says. “And every ounce of volatility that you add to a fund decreases your compound return.” Even more importantly, he says, the smart beta approach aims to keep participants calm enough to stay invested during a downturn, and not go to cash. “If the alternative is for someone to sell at the bottom and then buy again at the top, you may have saved that person 25% of their account value by staying in the fund,” he says. “The true benefit is the behavioral part of it.”

The rest of this four-part series can be found here:

Judy Ward is a freelance writer specializing in writing about retirement plans.