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Charles Schwab to launch TDF-managed account hybrid for 401(k)s

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Fidelity and Empower have already rolled out similar products.

Charles Schwab & Co. plans to roll out a service for 401(k) participants next year that’s a hybrid of a target-date fund and a managed-account advice service, following in the footsteps of a handful of prominent retirement-plan record keepers and building on the evolution of financial advice offerings in workplace retirement plans.

The service, currently in development, would automatically shift 401(k) participants invested in their plan’s target-date fund into a managed account upon reaching a certain age, generally around 55 or 60, that is chosen by the plan sponsor. Employees can opt out if they wish.

The logic is that near-retirees have a more complex financial situation than younger investors and would benefit from the more personalized nature of a managed account. Managed accounts are similar to TDFs but can provide an asset allocation for an individual that, unlike TDFs, takes into account data points in addition to age, such as marital status and the presence of other financial accounts. Some managed accounts offer various financial planning elements to participants, too.

Empower Retirement was the first to launch such a TDF-managed account hybrid, in 2016, followed the following year by Fidelity Investments. The record keepers — among the largest in the industry by total assets in defined-contribution plans — respectively called their products Dynamic QDIA and Smart QDIA.

Catherine Golladay, head of Schwab Retirement Plan Services, which administers roughly $171 billion in retirement plan assets, said the company will debut its product in the first quarter of 2020.

“We’ve found managed accounts add a tremendous amount of value,” Ms. Golladay said.

Record keepers have been evolving their managed account offerings in a bid to boost uptake and diversify revenue streams in an environment of fee compression.

Fees for 401(k) record-keeping services have been cut in half over the past decade, to roughly $59 per participant, according to consulting firm NEPC. At the same time, investment fees have fallen and employers are using record keepers’ in-house investment funds less frequently.

Equity mutual fund fees in 401(k) plans dropped to an average 0.46% in 2016 from 0.65% in 2009, according to statistics published in June by the Investment Company Institute and BrightScope Inc. The number of DC plans offering their record keeper’s target-date fund dropped to 25% in 2018 from more than 50% in 2012, according to the consulting firm Callan.

These trends all point to less money coming in the door. Managed accounts typically cost more than the average TDF, and using a mechanism such as the one Charles Schwab is developing to automatically shift employees into managed accounts represents a way to enroll participants in a proprietary product, experts said.

“So much of the business seems to be going toward models — whether retail brokerage accounts, robo-adviser-type accounts or some kind of target-date or managed account,” said Chris Brown, founder and principal of Sway Research, which studies asset management distribution in retirement plans. “Asset managers are looking at their margins getting squeezed and saying, ‘What can we do to be the model builders?’ The more they can move into that side of the business, the better off they are.”

But financial advisers question the value of automatically shifting a participant into a managed account.

“I’m not sold on it,” said Susan Shoemaker, a partner at Plante Moran Financial Advisors.

Managed accounts, Ms. Shoemaker said, can be valuable for engaged employees who populate the program with additional information about themselves and their family. That tailors asset allocation more precisely and provides good value for some participants, she said.

However, she questions whether the programs would have enough data about disengaged participants who are automatically enrolled into the program, in which case the managed account may not be worth the additional cost.

“I think the theory [behind the automatic shift] is good, if you have good data,” Ms. Shoemaker said. “It has to be worth the price you’re paying.”

Charles Schwab’s managed account, which is powered by Morningstar Investment Management, costs up to 0.50% of assets per year, according to a filing with the Securities and Exchange Commssion. Morningstar gets a portion of that fee, which doesn’t include underlying investment fees.

By comparison, the average asset-weighted expense ratio for a passive TDF last year was 0.13%, according to Sway Research. It was 0.55% for TDFs incorporating both passive and active strategies, and 0.67% for actively managed ones.

Ms. Golladay of Schwab said a company representative typically meets with a participant enrolling in a managed account at least annually to discuss their personal situation, which could help secure more data for the managed account service.

Some studies have found managed accounts to be worth the cost for participants. According to a 2019 Morningstar report, the average 30-year-old participant had $5,548 more annual income in retirement — a 56% increase — when using a managed account with a “common fee” of 0.40%.