Plan sponsors and participants both want to ensure better retirement savings but they often wonder which factor in the process matters most. A study from Putnam Institute suggests sticking with the obvious: The higher the deferral rate during an employee’s working life, the greater the long-term returns.
Despite intense focus on fund performance in the defined contribution industry and among plan participants, the study found that aspect much less powerful in building wealth for retirement than asset allocation or, most influential of all, higher deferral rates. In order to encourage and achieve greater deferral, the study supports auto-enrollment and gradually escalated auto-deferral for participants.
The report “Defined contribution plans: Missing the forest for the trees?,” released in July, analyzes four variables important to the goal of maximizing retirement savings with DC plans. These are:
- fund selection;
- asset allocation;
- portfolio rebalancing; and
- increased deferral rates
After comparing results from a model portfolio to which all these approaches were applied, the Putnam study picked higher deferral rates as one of the most significant drivers of long-term returns. The size of the difference in final wealth accumulated “can be dramatic,” it says.
To assist in boosting wealth accumulation, plan sponsors should implement auto-enrollment and escalating auto-deferral increases, the study maintains. These features carry neither a high fiduciary risk nor a prohibitive cost to plans, when compared with employee education or advisory services that often support more aggressive asset mixes.
For additional information about retirement investment, see Thompson’s employee benefits library including the 401(k) Handbook.