While quantitative easing (QE) programs have kept interest rates low, they’ve created a host of new risks for retirement savers as outgrowths of low yields.
That’s according to a new study from Principal Global Investors.
The study looked at four investor groups—not just defined benefit and defined contribution plans, but also retail investors and high-net-worth investors—and the risks they face, as well as how they’re responding.
Low yields, said the study, have distorted asset valuations, as well as marginalizing the navigation tools investors usually used: things like risk-free rate, fair valuation, and equity risk premium.
That puts investors at risk of jumping into what it calls “value traps” that “are just as likely as value opportunities.”
The study also found that more than half of DB plans are skewing investment allocations to the following:
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infrastructure (44 percent)
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traditional passive funds (32 percent)
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global equities (23 percent)
DC plans are moving toward diversified income funds (63 percent) and lifecycle funds (58 percent).
Lifecycle funds are designed specifically to work against investors’ behavioral biases that set them up to fail in what the study terms “sensible investing.” Those biases include
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participants’ tendency to stick with their original asset choices even after their circumstances warrant changes
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investors’ overconfidence in their personal expertise in choosing investments, even when evidence indicates otherwise
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“herding,” in which they follow the crowd and put their money into the same vehicles everyone else is choosing.
But that concentration on lifecycle funds could actually cause problems.
Low plan balances, it said, are a handicap when it comes to lifecycle funds, since “[l]ifecycle investing can only deliver good asset allocation decisions and decent retirement outcomes with a deferral rate of around 18 percent—well above the 10 percent level that now prevails in almost all major DC markets worldwide.”
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