Vanguard: DC Plan Reenrollment Improves Portfolio Construction, Reduces Costs

VALLEY FORGE, Pa., March 1, 2016 /PRNewswire/ -- Vanguard research released today highlights the value of defined contribution (DC) plan reenrollment in improving participants' portfolio diversification and dramatically reducing fund fees paid by participants.

A reenrollment plan design strategy transfers participants' account balances automatically to the plan's qualified default investment alternative (QDIA), unless participants specifically opt out. In this case study, researchers reviewed a reenrollment event undertaken by a large Vanguard DC plan, consisting of nearly 18,000 participants and more than $1.2 billion in assets. The reenrollment process occurred when plan participants were transitioned to Vanguard's recordkeeping platform with a concurrent streamlining of the plan's investment lineup. A key change in the investment menu was the replacement of actively managed target-date funds (TDF) as the plan's QDIA with a passively managed, significantly lower-cost TDF suite.

"Vanguard is working closely with plan sponsors to improve savings and participation rates, and we've seen sponsors initiate vast improvements in retirement savings behaviors with widespread adoption of automatic features and the choice of target-date funds as the default option," said Martha King, managing director of Vanguard's Institutional Investor Group. "Reenrollment is the logical next step on the path to improving Americans' retirement readiness."           

The study first evaluated participants' opt-out behavior, finding that the vast majority of participants remained invested in the new default TDF. Six months after the reenrollment, only 16% of participants fully or partially opted out of the TDF, and only 6% of participants opted out into a portfolio without any target-date holding. Opt-out behavior varied depending upon participants' status within the plan. Among inactive participants, who are less attentive to their retirement accounts, the opt-out rate dropped to 4%.

Vanguard researchers also reported more age-appropriate participant risk profiles and a decrease in extreme equity allocations. A primary objective of a reenrollment strategy is to address risky or inappropriate allocation choices among participants. Following the reenrollment, 94% of participants held an age-appropriate allocation via a TDF, representing 74% of plan assets. Prior to the re-enrollment, only 25% of participants held a TDF, representing 5% of plan assets. Moreover, the percentage of participants holding an extreme equity allocation (i.e., more than 90% or less than 20% equities) decreased to 7% from 23%.

Reenrollment provides plan sponsors with yet another catalyst to directly improve the portfolio diversification of its employees. The strategy can be of particular benefit to older, longer-tenured participants who may not have benefited from the automatic enrollment and inherent diversification of a qualified default fund provided by the Pension Protection Act of 2006.

"Inertia can dominate financial decision-making, and we've used that to the benefit of newly hired employees into DC plans through automatic enrollment and default investments," said Cyndy Pagliaro, the study's lead author. "However, with all the plan design improvements made over the last decade, longer-tenured employees have been left behind. Reenrollment can help reverse the poor investment decisions made by many older participants previously left to their own devices."

Another benefit of reenrollment is the potential to reduce costs. In the plan studied by Vanguard, the average participant paid 41 basis points annually, a reflection of the plan lineup's tilt towards more expensive actively managed funds. Following reenrollment, participants paid an average of only 10 basis points—a 75% decrease—a direct result of the new default target-date series' low-cost, passively managed strategy. Over time, reduced fees are expected to result in significant cost savings for participants. After ten years, the median participant can save approximately $2,400; after 20 years, the projected savings jumps to more than $9,000.¹

About Vanguard
Vanguard is one of the world's largest investment management companies. As of January 31, 2015, Vanguard managed more than $3.2 trillion in global assets. The firm, headquartered in Valley Forge, Pennsylvania, offers more than 315 funds to its more than 20 million investors worldwide. For more information, visit vanguard.com.

For more information on Vanguard funds, visit vanguard.com, or call 800-662-7447 to obtain a prospectus or, if available, a summary prospectus. Investment objectives, risks, charges, expenses, and other important information are contained in the prospectus; read and consider it carefully before investing. 

All investing is subject to risk, including the possible loss of the money you invest. Diversification does not ensure a profit or protect against a loss.

Investments in target-date funds are subject to the risks of their underlying funds. The year in the fund name refers to the approximate year (the target date) when an investor in the fund would retire and leave the workforce. The fund will gradually shift its emphasis from more aggressive investments to more conservative ones based on its target date. An investment in target-date funds is not guaranteed at any time, including on or after the target date.

Vanguard Marketing Corporation, Distributor.

¹ Assumes the median participant saves 9% annually (includes matching contributions) and has 5% annual rate of return. This hypothetical illustration does not represent the return on any particular investment, and does not reflect any taxes or penalties that may be due upon distribution.

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