CORE INVESTMENT MENU

Follow the money:
Are core menus doing their job?

Feb 8, 2017
By BlackRock

Consider the average core menu. In our experience, it typically includes a core bond fund and multiple equity selections spread across style boxes and regions. Core menus are designed to provide choice and diversification. How well are they doing the job?

Explore the core with real data

BlackRock’s Spotlight analytics uses plan data to create a snapshot of how participants are allocated across a plan’s investment menu. Our examinations frequently suggest that assets are less diversified than many plan sponsors assume.

If the forecast is correct, future realized returns may be lower while volatility remains close to current levels, creating further challenges for investment menus. To help employees avoid a shortfall in their retirement savings, it’s critical for plan sponsors to understand their participants’ risk exposures.

A case study: A wholesale trade business

As illustrated in the chart below, each color-coded bubble represents a menu option. The size of the bubble is proportional to the assets invested in that fund. The circles are further plotted against the X-axis, measuring 5-year standard deviation (realized risk), and the Y-axis, measuring 5-year realized return.1

 

A wholesale trade business with a potentially underutilized QDIA.

A wholesale trade business with a potentially underutilized QDIA.

At first glance, this seems like a well-diversified menu with a wide spectrum of choices. On closer examination, however, potential issues emerge. For instance, the QDIA (#5) is the largest holding — but not by much, suggesting that the QDIA may be underutilized. The second and third largest holdings are an S&P 500 Index fund (#7) and a company stock fund (#16). While the S&P 500 is a diversified large cap fund, its risk exposure suggests it may not be appropriate as the sole holding for many participants, especially those close to retirement. A glance at the chart shows that company stock is an outlier for both risk and return.

What can we learn from this snapshot?

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Significantly greater risk

Considering the overall allocation, the size of the U.S. equity, non-U.S. equity and company stock allocations suggests that participants are exposed to significantly greater risk than they would be if they were invested in the QDIA.

Icon : Two way

 

Diversification in name only

There is significant overlap in the risk/return profiles for five of the equity funds (#7 — 11). Three of the funds (#7, #8 and #9) overlap nearly completely, meaning that they have nearly identical risk and return profiles. Funds #10 and #11 are immediately adjacent, which calls into question whether the five funds offer sufficient diversification.

The bottom line

We believe the next evolution of investment menus needs to be driven through four steps:

  1. Consider supplementing low cost, broad index positions with additional sources of diversification and return through white label, factor and rules-based smart beta strategies.
  2. Expand the fixed income opportunity set to target the potential for stronger returns and income.
  3. Reexamine the target date fund as part of the full menu review.
  4. Unlock and realign legacy default assets through reenrollment.

For additional case studies that leverage our Spotlight analytics and for more information on the steps outlined above, download the full paper below.

 

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