Building an Ideal Investment Fund Lineup

Plan sponsors know that offering a retirement plan is important not only to attract and retain loyal employees, but to ensure they are retirement ready. There are many moving parts to the retirement plan, including enrollment, plan education efforts, building the investment fund lineup, staying compliant with the DOL and ERISA, and making distributions. Particularly, building an ideal investment fund lineup is a multi-stage process, and for many sponsors, the prospect of selecting the investments to be offered in a plan can seem overwhelming. With thousands of investment funds available to choose from, creating the right mix for your employees can be difficult.

Going into the investment selection process without investment knowledge or assistance from an investment adviser can shortchange your plan participants in the long run. Learn about the important role a high-quality investment fund lineup can play in your overall plan and plan participants’ success, as well as what to consider when building your investment fund lineup.

Develop and Follow an IPS

While creating and maintaining an Investment Policy Statement (IPS) is not required by law, having one in place can be vital when it comes to constructing a successful investment fund line up for your retirement plan.

This overarching document serves as a guideline for plan- and investment-related decisions, from determining plan objectives and selecting plan fiduciaries to defining the investment selection and monitoring process. In today’s litigious environment, having an IPS in writing can prevent plan sponsors from making rash or inconsistent decisions during times of market turbulence as well as demonstrating the process by which decisions are made should an audit occur.

An ideal IPS will cover (but is not necessarily limited to) the following topics:

• Investment selection, monitoring and control procedures
• Asset allocation (including a rebalancing trigger)
• Investment benchmarks and peer groups
• Monitoring fund fees

The IPS should drive the fund selection process—after all, the fund lineup can and should directly impact your investment goals. Once you identify the goals and procedures of the plan, building the investment fund lineup becomes much more manageable.

Understand Your Participant Demographics

When it comes to investing, there’s no one-size-fits-all approach. The right mix of investments can largely depend on your overall participant demographics. As a result, when selecting your investment fund lineup, you’ll want to consider specific factors about your participants, including:

• Employee age groups and their likely retirement dates
• The average and/or median income
• Their current investment behavior and goals for retirement
• General financial knowledge and sophistication

Understanding your participants and keeping these factors in mind will help you determine whether you need to focus on simple, target-date funds that automatically rebalance themselves or more complex funds that your financially-savvy employees will appreciate. These factors may also impact your qualified default investment alternative, discussed in more detail below.

Diversify Fund Options

When building the investment fund lineup, plan sponsors should offer a variety of fund choices based on their participant demographics. A good way to begin the process is by choosing a target number of investment options, which is an important balance to strike—too many choices can confuse and discourage plan participants, while too few can subject plan sponsors to liability if the selected investments underperform. Too many options in a single category can also implicitly suggest that these options are preferable to the others that are offered, leading participants to gravitate toward choices that may not be right for them.

Section 404(c) of ERISA requires plan sponsors to offer at least three core options with diversified risk and return characteristics. This certainly doesn’t mean that you’re limited to offering only three funds, but a goal of around a dozen options (plus target date funds) can achieve ERISA compliance without overwhelming the plan participants with the sheer number of choices.

Include Environmental, Social, and Governance (ESG) Funds

Offering environmentally- and socially-conscious investments can provide some serious appeal to a large segment of your workforce, particularly Millennials (and, soon, members of Generation Z). This means screening funds for those that include companies that offer sustainability reports, are highly ranked for their commitment to employee wellness issues, and boast a diverse board of directors, for example. Fortunately, the rise in popularity and effectiveness of ESG investing means that there are more ESG-friendly funds available in a variety of sectors and asset classes.

Select a Qualified Default Investment Alternative (QDIA)

The QDIA is a default investment option that ensures that all plan participants can enjoy a moderate rate of return even if they don’t feel comfortable selecting an investment fund. QDIAs are meant to prevent participants from sinking all their money into an inflation-eroding savings option. Plan sponsors often choose to elect Target Date Funds (TDFs) as the QDIA. TDFs adjust asset allocation based on a participant’s age, which provides an automatic risk reduction as the participant gets closer to retirement. By having a pre-selected investment like TDFs, you can help employees take the guesswork out of investing for retirement.

When selecting a QDIA, you’ll want to keep your overarching IPS in mind throughout the process. Consider factors like fees, fund history, and fund transparency to allow plan participants to get the most value for their money. Effective QDIA management also requires ongoing oversight and quick action once the QDIA begins significantly underperforming its benchmarks.

Consider the Fund History

Financial disclosure laws require investment statement to indicate that past performance is no guarantee of future results. But in practice, a guarantee isn’t necessary. By choosing only funds that have a documented history of strong and stable performance over time, you’ll avoid many of the flash-in-the-pan investment funds whose volatility or fees aren’t justified by their performance.

Build Your Investment Fund Lineup with a Professional

Keeping these steps in mind when building your investment fund lineup can keep you on the right side of ERISA guidelines while boosting your employees’ plan participation (and, as a result, their investment balances). However, if building the investment fund lineup is outside of your fiduciary knowledge, seek help from a retirement plan adviser. Plan sponsors can choose to work with an ERISA 3(21) or 3(38) fiduciary to assist with the investment selection. We encourage you to contact us at (312) 973-4911 or info@planpilot.com so we can help your retirement plan administration team and plan participants achieve better outcomes.

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