Strategy discussions around defined contribution workplace saving tend to focus on plan design and engagement but questions of asset allocation are also critical, according to a discussion summary of the most recent Jasper Forum.

The Forum was led by Australian Retirement Trust head of asset liability management Brnic van Wyk, Putnam Investments’ Mike Dullaghan, DCALTA’s Jonathan Epstein, Aon’s Rick Jones, Morningstar’s Aron Szapiro, and Utrecht University PhD candidate Jorik van Zanden.

In the discussion wrap-up, JM3 Projects principal John Mitchem said target date funds’ glide paths have dominated defined contribution savings in the US and Canada, whereas in the UK and Australia, balanced funds are the norm.

While asset allocation strategies in defined contribution plans have been long debated, the summary questions whether it would be a good idea to introduce private market assets into US 401(k)s as has successfully been the case in the Australian super system.

To date, target date funds have been the norm in the US 401(k) system, growing to comprise of $3 trillion in assets under management (AUM) which equates to 62% of defined contribution AUM.

However, Mitchem noted that the US glide path is just a simple mix of stocks and bonds, varying by age.

So, regardless of how popular target date funds might be, he considered whether new asset allocation technologies will render this collective investment scheme irrelevant, likening it to a Walkman about to be overtaken by the fintech equivalent of an iPhone.

In Australia, while super funds have never used glide paths like the US target date fund, Mitchem said they are exploring a glidepath formulation that would take the American standard of age-based retirement target dates and add a second factor, accumulated savings.

“Using two factors, plan sponsors will be able to blend age and savings size into a single data point that would place individual workplace savers onto a matrix that compares their retirement preparation to that of other workers.  Total savings as compared with savings of others of the same age allows for personalisation in a way that single factor target date funds cannot,” Mitchem stated.

As Australian super funds are independent entities competing against each other for savers, innovation is encouraged. Without encumbering US regulations like the Employee Retirement Income Security Act (ERISA) that holds the executive leadership of 401(k) sponsoring companies personally liable for fiduciary compliance, super schemes are more freely able to innovate based upon their best scientific, academic, and legal understanding, Mitchem said.

“While participants have traditionally been defaulted into a single balanced allocation, ever since the global financial crisis in 2008-2009, strategists have been contemplating personalisation. The thinking now is that super funds need to offer savings options tailored to individual risk tolerances and retirement timelines,” he said.

Although this requires the application of extraordinary data oversight, absent total personalisation built around total knowledge of investor characteristics and financial assets, individual investors in pooled savings plans will always encounter differing degrees of optimality, he added.

Meanwhile on setting asset allocations in volatile markets, the summary reported that over recent decades the US 401(k) system and Australia’s superannuation have grown during an accommodative market, characterised by falling interest rates, rising beta equity, and robust growth in residential real estate.

But a combination of rapidly declining valuations amid inflation and rising interest rates has raised difficult questions.

“Across the years of defined contribution workplace savings, investment strategies have directed worker savings into equity markets in the knowledge that equities outperform over the long term.  The risks associated with these allocations have been mitigated through allocations to balanced funds and target date fund’s that use fixed income instruments as a counterweight to equities. But is this best strategy?” Mitchem said.

He remarked that Australian super allocation strategists are undertaking a more wide-ranging inquiry than US counterparts.

“Superannuation investment strategists are asking fundamental questions that the Americans don’t seem to be asking,” Mitchem said.

“For example, why develop a 60/40 portfolio at all when workplace savings are a multi-decade investment strategy and equities, over long terms, always outperform bonds?  This is a particularly acute question in 2022, when bond yields are rising.  Why not just have a 100% equity portfolio or a blend of public and private equity?  Or a blend of public and private equity cascading into a tontine late in the glide path rather than into fixed instruments that routinely underperform?”

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