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Improving your plan
We have found that most 401(k) plans short-change participants in several ways. The most important shortcoming is that most plans fail to provide access to the investment choices that are likely to provide the best long-term results in terms of risks and rewards. You will find details in the news release we issued in October 2005, immediately below.
That’s the bad news. The good news is that you can do something about it. You can lobby for change. Start by educating yourself with the resources on this site. Then share what you have learned with the trustees of your plan and ask them to give you access to the asset classes you need to make your money work as hard for you as it can.
On this page you will find a sample letter you can send to the trustees of your plan.
401kHelp.com News Release, October 2005
For Immediate Release:
October 13, 2005
Major Northwest employers shortchange workers on retirement plans
New survey finds 401(k)s saddle employees with high costs, poor investment choices
SEATTLE – A new survey of the 401(k) retirement plans offered by 20 major Northwest employers has found that most do a poor job of giving their employees the investment options they need most.
The survey covered the optional retirement plans of corporate employers including Starbucks, Nordstrom, Costco, Microsoft, Washington Mutual and Amazon.com as well as government employers including the University of Washington and the City of Seattle.
The research and analysis was conducted by Merriman Capital Management, a Seattle investment firm and registered investment adviser that sponsors the free Web site http://www.401kHelp.com
Across the board, the analysis found that employers significantly shortchange plan participants by featuring unnecessarily expensive mutual funds and failing to give ready access to many important asset classes. Employers who offer broad fund choices typically do an inadequate job of helping participants choose the best options, said Tom Cock, who led the research as editor of 401kHelp.com.
The site contains analysis of more than three dozen employer plans along with specific recommendations for the options employees should choose in each plan.
“None of these plans features all the kinds of assets investors need most,” Cock said. Most plans are loaded with funds that concentrate on U.S. large-company growth stocks, which over the long term (and over the past five years) have performed relatively poorly for investors.
Few plans give investors good choices of funds that invest in U.S. value stocks and U.S. small-company stocks. International fund offerings, when they’re available, are typically limited to large-company stocks. International small-company funds, which have outperformed most other asset classes lately and over long periods of the past, are rarely available to 401(k) participants, Cock said.
High recurring expenses are a common drawback of these plans. The equity funds in plans typically charge annual average expenses of 0.7 to 0.9 percent. Expenses in Amazon.com’s plan average 1.14 percent. That compares with average expenses of less than 0.27 percent in the readily available alternative funds recommended by Merriman Capital Management in the same asset classes.
A few corporate 401(k) plans deserve special mention:
- Washington Mutual, a huge Seattle-based thrift that owns its own brokerage subsidiary, provides one of the worst plans for its employees. The funds Washington Mutual has chosen for its plan don’t include a U.S. small-company value fund or any international small-company options. The plan’s featured funds have average operating expense ratios of 1.12% per year. Most of these funds have greatly under-performed their peers, according to data from Morningstar.com. While the company offers participants access to other funds through its brokerage subsidiary, the plan offers no guidance in using those choices. “Of all employers, Washington Mutual should know better,” Cock said.
- Fisher Communications, owner of KOMO-TV and three local radio stations, has failed to provide its employees with even basic diversification, offering not one value fund. “Fisher’s new CEO could build her in-house ratings quickly by making a better 401(k) plan a top priority,” said Cock, who is also host of the PBS television program “Serious Money.”
- Costco Wholesale offers thousands of products to its customers coast to coast. But employees will have to shop elsewhere to stock their retirement plans with anything beyond large-company growth funds, even though this asset class over the long haul has been the worst performer among major equity asset classes.
- Internet giant Amazon.com offers a credible though expensive retirement program that includes all the important U.S. asset classes. But the company that offers the world millions of products offers its workers only one international fund.
Cock recommends that employers offer low-cost retirement fund choices in at least eight equity asset classes: U.S. large blend, U.S. large value, U.S. small blend, U.S. small value, international large blend, international large value, international small blend and international small value. In addition, emerging markets funds, though rarely offered in 401(k) plans, give investors access to the high long-term growth potential in developing nations such as China.
Not one Northwest company plan in the survey has readily available choices that offer those eight basic asset classes. The City of Seattle plan came closest, offering five. The worst plan was that of Qwest Communications, which offered only one of the eight; Weyerhaeuser, Costco, The Seattle Times, Nike and PACCAR each offered only two. No Northwest plan’s core lineup contained more than one of the recommended international asset classes, and the Qwest plan had not even one.
Only five Northwest plans – Amazon.com, City of Seattle, Group Health, Safeco and Western Wireless – offered employees ready access to U.S. small-value funds, an asset class that over long periods of time has far outperformed large-company growth stocks.
“Over the past 20 years, employers of all types have gradually made employees more responsible for their own retirement investments through 401(k) and similar plans,” Cock said. “But employers are doing a poor job of giving workers the tools they need to exercise that responsibility well.
“Today’s employers use highly trained managers and sophisticated software to maximize their own finances,” Cock said. “It’s neither difficult nor expensive for them to show an equal regard for the financial future of their employees. The fact that they don’t is inexcusable.”
Cock recommends employees take an active role in persuading the trustees of their retirement plans to offer investment choices with lower expenses and more opportunities for diversification. The resources at 401kHelp.com include a letter that participants can use to request better options.
At its free educational Web site, FundAdvice.com, Merriman Capital Management has posted a Model Portfolio of nine equity funds that do-it-yourself investors can use to gain low-cost access to the most important asset classes.
“We believe that access should be easily available in every 401(k) plan,” said Cock. Seven of the nine funds are from Fidelity and Vanguard; the other two allow investors to include two important asset classes not available from either Fidelity or Vanguard.
Funds in this Model Portfolio are Fidelity Spartan 500 Index, Vanguard Value Index, Vanguard Small Cap Index, Vanguard Small Cap Value Index, Fidelity Spartan International Index, Vanguard International Value, Laudus Rosenberg International Small Cap, Lazard International Small Cap and Vanguard Emerging Markets Stock Index.
“We believe these nine funds represent an excellent, low-cost way to gain broad access to the important asset classes that will help employees make their money work hard for them,” Cock said. “Employees should take this list to their plan trustees and ask that they be made available.”
For further information call Tom Cock Jr. at 206-285-8877.
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Suggested letter to trustees
Here's a sample letter you can send to your retirement plan administrator to request that index funds be added to your investment options.
You will need to determine to whom it should be addressed. In every plan, some individual or group has authority to add investment options. Somebody in your employer's human resources department should be able to tell you who that is and who should receive such a letter.
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Dear ___(plan administrator or trustee):
As a participant in our company’s retirement plan, I have been studying what it takes to be a successful long-term investor. As you know, many of my fellow employees and I are depending heavily on this plan to ensure our financial futures. After reviewing the investment options available in our plan I have reluctantly concluded that the plan fails to give us some of the tools we need to do the best job of investing our savings effectively over the long term.
Because so many people, perhaps including you personally, are counting on our plan, I hope you will give this topic a few minutes of your time. I believe our plan could be significantly improved with the addition of a small number of new investment options. While I am not an expert in plan administration, I believe the costs and risks of doing so should be quite reasonable.
I have enclosed a few articles that I hope you will read and consider. Here’s a summary of what my research has shown:
Nobel prize-winning experts have concluded that the overwhelming majority (over 90 percent) of long-term investment results are determined by the asset classes represented in a portfolio. Therefore, having the right types of assets is critical. The research indicates that over time:
- Small-company stocks outperform large-company stocks. According to Dimensional Fund Advisors, a large investment and research firm in Santa Monica, California, from 1927 through 2004, U.S. small-cap stocks had annualized growth of 12.4 percent. That compares with 10.4 percent over the same period for the Standard & Poor's 500 Index.
- Value stocks outperform growth stocks. DFA figures indicate that from 1927 through 2004, U.S. large-cap value stocks grew at an annualized rate of 11.4 percent, compared with only 9.5 percent for large-cap growth stocks.
- International stocks often outperform U.S. stocks, and because U.S. and international markets typically move up and down at different times, combining them can stabilize a portfolio. Here are some interesting comparisons of annualized returns for the period from 1970 through 2004: U.S. large-cap stocks, 11.2 percent vs. international large-cap stocks, 10.4 percent; U.S. small-cap stocks, 13 percent vs. international small-cap stocks, 16.5 percent.
- When these four asset classes are combined and rebalanced each year, the resulting “smart diversification” (described in one of the enclosed articles) gives the portfolio higher returns. Using the four asset classes from the last example, it is easy to calculate that their average annualized return was 12.8 percent. When they were combined with annual rebalancing, the resulting annualized return was 13.4 percent.
- Even more important, especially to conservative investors, is risk reduction. Measured by standard deviation, the average risk of these four individual asset classes from 1970 through 2004 was 20.8 percent. When they were combined, they produced a standard deviation of only 16.9 percent. That 16.9 percent is lower than the figure for any of the four individually.
It is easily possible to divide the universe of U.S. stock funds into large-cap stocks, large-cap value stocks, small-cap stocks and small-cap value stocks. You can do the same with international stock funds and wind up with terrific diversification via eight mutual funds. I also believe that an emerging markets fund would give us exposure to the long-term growth potential in developing nations such as China. I believe every one of these nine equity asset classes should be available to us in our plan. Most of them can be accessed with low-cost index funds, and I think our plan should have them.
Merriman Capital Management, an independent investment firm and registered investment adviser in Seattle, has a free educational Web site, FundAdvice.com, where it has posted a Model Portfolio of nine equity funds that do-it-yourself investors can use to gain low-cost access to these asset classes. Merriman also suggests these as good funds to include in 401(k) and similar retirement plans.
Here are the nine funds: Fidelity Spartan 500 Index, Vanguard Value Index, Vanguard Small Cap Index, Vanguard Small Cap Value Index, Fidelity Spartan International Index, Vanguard International Value, Laudus Rosenberg International Small Cap, Lazard International Small Cap and Vanguard Emerging Markets Stock Index.
I hope you will seriously consider my request for addition of these funds. I am not proposing that any of the present options in our plan be dropped, and certainly every participant is free to make his or her own selections. By making these funds available in our plan, you will give serious investors more effective tools to make our money work harder for us. Is this too much to ask?
I appreciate your time and look forward to your response.
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DISCLAIMER:
This information is provided by Merriman Berkman Next, Inc., a registered investment advisor, and is believed to be from reliable sources, but no guarantee is made as to accuracy or completeness. The investment securities and strategies discussed are not suitable for all investors. Recommendations are of a general nature, not based on knowledge of any individual's specific needs or circumstances, and there is no intent to provide individual investment advisory, supervisory or management services. Unless otherwise noted, all reported or projected results (1) assume reinvestment of interest and dividends; (2) are net of any applicable management fees and transaction costs; and (3) do not reflect any effect of taxes. Past returns, whether actual or hypothetical, are not indicative of future results, which will be different from those of the past.
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