I’ve been watching a lot of sports lately. World-class athletes pushing themselves to go beyond what they thought they were capable of. And I’ve been giving thought to exactly what it takes to be that good. It’s more than natural ability. And countless hours of training. Increasingly, it takes a holistic strategy that combines fitness and conditioning, diet, mental determination, psychology, and certainly the guidance of an experienced coach.
While plan sponsors won’t help participants become world-class athletes, they do act like experienced coaches, guiding participants to potential investment success. Not on a podium. But for their retirement.
In June, I blogged about a new approach for sponsors as they seek to drive positive retirement outcomes for their participants. There, I noted that Step one for every sponsor should be effective plan design. This would include decisions regarding the company match, auto-enrollment, the default rate, automatic annual increases, the QDIA, and decisions regarding sweeps and reenrollment.
As head of Vanguard Participant Strategy and Development, my goal is to ensure every participant has the best chance of retirement success. Often that includes helping plan sponsors think about what more they could be doing. Earlier this year, I was on the road a bit, speaking with clients and consultants in different cities. And one of the developments in the DC business that I spoke about was this idea of “courageous plan design.”
But what is that exactly?
Consider a typical plan design. Participants are autoenrolled, they’re defaulted in at 3% and autoescalated at 1% per year. If they make no changes, it will take them ten years to reach a 12% savings rate (not including any company match). With a more courageous design, participants are autoenrolled at a higher rate, say 6%, and autoescalated at 2% annually. In this situation, again assuming no changes, the same participant would reach a 12% savings rate in only four years.
Beyond deferral and autoescalation rates, I think about “courageous” plans as those that look like this:
Now, will some participants opt out? Sure. Some will. Though likely not as many as you think. Typically 10% or less. And our research shows the opt-out rates for defaults of 2% and 6% are actually identical.
As for the rest of the population? They’ll do nothing. Defaults tend to be very sticky. Why? Inertia is a powerful force. And in this case, it can be leveraged in a way that benefits the participant long term, without any effort on their part.
Here are just two case studies from our own clients.
Courageous to attract high-caliber talent
With roughly 3,500 participants, a service firm we work with was looking to gain an edge over its larger competitors in terms of attracting talent.
In addition to a 3% profit-sharing contribution and a contribution match, the firm increased the default savings rate to 6%. In addition, it swept in all participants saving less than this amount to the default. While this was a one-time sweep, the firm is considering making it an annual event.
With these changes, the participant rate moved from 81% to 90% and is expected to continue upwards. On average, savings rates have risen a full percentage point.
Courageous to be outstanding plan fiduciaries
Another firm we’ve partnered with for roughly 15 years has been moving to a courageous plan design over the course of several years, one change at a time, with each of these changes intended to improve participant outcomes. And they’ve seen tremendous results across all three of their plans. Their Vanguard Plan Effectiveness Index™ (VPEI) scores now sit at 67, 83, and 94 (out of 100). VPEI measures three fundamental factors—participation rate, total savings rate, and portfolio construction—to assess how effectively a plan is helping participants save for retirement. In total, changes made to the plans have moved these scores up 29 points during the past four years.
So what are they doing today?
- Autoenrollment with a default deferral rate of 6%.
- Annual undersaver sweeps for those saving 1%–5%, automatically increasing them to 6%.
- Annual automatic increases of 1% for those saving 6%–11%.
- Shifting from an 85+ fund lineup to a tiered lineup of 30 funds.
Getting to a courageous plan design likely won’t happen overnight. And that’s okay. Even incremental steps, made one at a time, can add up to big improvements for participants. And while that may not get you on a podium, it may ensure your participants can go the distance when it comes to retirement.
All investing is subject to risk, including the possible loss of the money you invest.