The main challenges of retirement savings—plan participation, contribution rates, and portfolio diversification—are being met head-on by sponsors through their plan and investment menu design decisions, finds a Vanguard report.
Plan sponsors have sought to make participation the default, with widespread use of features such as automatic enrollment and automatic deferral increases. At year-end 2014, 36% of Vanguard plans had implemented auto enrollment, a 50% increase since 2009, and 60% of newly hired employees participating in Vanguard 401(k) plans were automatically enrolled.
Read: DC plan participation rates could be improved: Report
Moreover, although this feature was traditionally used only with newly hired employees, sponsors of half of Vanguard plans have now chosen to apply it to eligible nonparticipants. In addition, seven in 10 auto enrollment plans have implemented automatic annual deferral-rate increases.
“The first step in retirement savings is participation,” says Jean Young, lead author of the report, How America Saves 2015, and a senior research analyst with the Vanguard Center for Retirement Research. “Over the past decade, we’ve seen a meaningful jump in total participation rates. Three-quarters of eligible workers now participate in their employer’s plan, up from two-thirds 10 years ago, underscoring the impact of autopilot plan designs.”
Another positive trend is a marked shift toward optimally designed portfolios for participants. The value of age- and risk-appropriate portfolio construction choices is most prominently reflected in the continued growth of target-date funds, particularly as the default investment option. With 88% of plan sponsors offering target-date funds, nearly all Vanguard participants have access to this professionally managed and diversified investment choice, and 64% take advantage of this option. Last year, $4 of every $10 deposited in Vanguard plans was invested in target-date funds (TDFs).
Read: DC participation rates hit record high
According to Vanguard research, TDFs and other professionally managed allocations have the added benefit of reducing extreme allocations and establishing appropriate risk levels for participants. As of year-end 2014, roughly one in eight employees held an extreme allocation position—8% of participants held only equities, while 5% held no equities in their portfolios. Ten years ago, one in three participants held an extreme allocation position—21% had all-equity portfolios, while 13% held no equities.
In addition to the broad adoption of diversified, balanced investment programs, there has been a dramatic shift away from company stock. Only 8% of participants held a concentrated stock position at the end of 2014, compared with 18% a decade prior—more than a 50% improvement.
Read: Do employees want auto features?
While high-level metrics of savings behaviours—median and average deferral and contribution rates—remained steady in 2014, Vanguard sees encouraging signs with respect to the number of participants saving at double-digit rates. “About half of participants in Vanguard-administered DC plans are saving 10% or more,” says Young.
However, the report also finds that in plans with automatic enrollment, more than 60% enroll at default rates of 3% or less. Auto enrollment boosts participation rates, but it can lead to lower contribution rates when default deferral rates are set at those levels. Vanguard recommends a target savings rate of 12% to 15%, including employer match.