In the 12-month period through early October, 401(k) plans and individual retirement accounts dropped in value by $2 trillion due to market volatility, and a new study questions whether retirement accounts are too exposed to market risk.
The report from the Center for Retirement Research at Boston College in Newton, Mass., discusses lessons that may be learned from the downturn resulting from the market volatility that has hammered retirement accounts.
The research from Alicia H. Munnell, director of the center, and Dan Muldoon, a research associate there, was completed last month.
DB PLANS ALSO HIT
The study shows that the Dow Jones Wilshire 5000 Composite Index declined by 42% from its peak Oct. 9, 2007, to Oct. 9, 2008. During this period, defined benefit plans were hammered alongside 401(k) plans. The analysis showed that public and private DB plans lost $1.9 trillion over that span.
"The declines were divided equally between defined benefit and defined contribution plans, but in the future, individuals will bear the full brunt of market turmoil as the shift to 401(k)s continues," the report stated.
Over the 12-month period, the value of DB and DC plans declined to $2.7 trillion, from $4.7 trillion.
"Holders of 401(k)s/IRAs were left feeling vulnerable and impotent as their savings evaporated. The question this crisis raises is whether pension participants need to be protected from this type of gut-wrenching volatility," the report stated.
In fact, there have been suggestions that the 401(k) plan be eliminated and replaced by a government-run pension plan funded by employee contributions. Ms. Munnell said she's not sure what the right answer is to the problems in the 401(k) arena, but she said it's clear that the current economic environment will force changes soon.
"The financial crisis has highlighted the problems in the 401(k) plans, and many in the industry are already wondering how the system needs to be reshaped," she said. "Some have already questioned whether the government should sponsor private pensions."
Ms. Munnell said that she believes the industry as a whole and advisers will be questioning how they can help 401(k) participants in the future.
"But maybe the problem can be solved by making adjustments to the existing system, or maybe we need a new tier of retirement savings," she said.
What is clear, Ms. Munnell said, is that Americans' retirement savings need to be protected, and the current retirement system is not working.
"The American workers deserve more than the system we have now," she said. "No person who has worked and saved over his or her lifetime and is now in their 50s or 60s should suddenly see a lifetime of savings disappear," Ms. Munnell said. "I think this is humiliating to people and demoralizing and people feel like they've failed and they don't understand what's happened, and neither do I."
While it's true that the industry will likely face more regulations, a complete overhaul is not needed, said Jim O'Shaughnessy, an adviser with Sheridan Road Financial LLC, a Northbrook, Ill., firm with about $1 billion in assets.
"We're staying the course and being as proactive as possible," he said. Mr. O'Shaughnessy said he's working closely with employers and employees who are nervous about their retirement accounts.
He believes that the automatic features such as target date funds will make saving for retirement easier for workers, but he said that even those will be questioned and likely critiqued.
"Overall, I think the industry continues to progress, and I know there will be a lot of scrutiny placed on target date funds. Some will show better performance than others," Mr. O'Shaughnessy said.
But Bob Rafter, an attorney with the Retirement Learning Center in New York, believes that advisers will need to change how they work with clients in light of the fact that the economic crisis has crushed 401(k) plans participants' assets.
In the past, he said, most advisers were concerned about bolstering performance returns, but now he believes that advisers will need to focus on ways to help their clients manage risk.
"I think there has to be a better understanding of the investor," Mr. Rafter said. "Some investors aren't the same as the others."
Mr. Rafter believes that advisers will work more closely on customizing portfolios for individuals who are in retirement and nearing retirement, and help them to manage their investments using strategies that have been used for DB plans successfully for years.
"These markets are dangerous for people in retirement or approaching retirement," he said. "If they're looking at themselves, they need to look at something else other than just diversification. I think this market we're in is a wake-up call for both investors and advisers."
E-mail Lisa Shidler at [email protected].
