Managed Account Is a Misnomer When it Comes to QDIAs

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I asked Perplexity AI if a portfolio can be managed for someone who will not talk to you, as is the case for people who default their 401(k) investment decision to their employer. I asked because a “Managed Account” (MA) is a Qualified Default Investment Alternative (QDIA) under the Pension Protection Act of 2006 (PPA), making it a bit of an oxymoron.

Here’s what Perplexity says:

Managing a portfolio for someone who will not communicate with you is not advisable or practical. Effective portfolio management requires ongoing communication and collaboration between the financial advisor and the client. Without regular interaction, it's impossible to:

Establish clear objectives and understand the client's financial goals
Assess the client's risk tolerance and time horizon
Adapt to changes in the client's life circumstances or financial situation
Provide updates on portfolio performance and address any concerns

QDIA MAs are not actually managed

In other words, the PPA has made a mistake in designating an MA as a QDIA. Perhaps the drafters of the PPA were thinking about accounts that are actually managed, but those participants do not default, so that flavor of MA is not a QDIA, and is typically reserved for executives of the sponsoring firm.

An MA for defaulted people is not actually managed, because it has no understanding of the client’s needs, wants and circumstances. However, you can actually manage accounts for self-directed (non-defaulted) participants, because they do want to engage.

But a recent innovation in personalization benefits both self-directed participants (SDPs) who are not in a QDIA) and defaulted participants in a QDIA.

Self-directed (not defaulted) participants

About a third of the $4.5 trillion in target date funds (TDFs) is from SDPs, so clearly a good portion of those investors like TDFs even though they are limited to the one glidepath that is provided by the TDF on their platform.

SDPs no longer have to settle for the single TDF on their 401(k) platform. A recent innovation called Personalized Target Date Accounts (PTDAs) lets SDPs manage a unique TDF glidepath that they control through time. They “drive this bus.” Here’s how.

PTDAs give SDPs lots of flexibility in managing their retirement savings. Life brings its surprises that can change individual risk preferences through time. PTDAs let SDPs move at will onto and in between the glidepaths in the following exhibit. SDPs manage their own unique personalized lifetime investment path through time; each path is unique to each self-directed participant. There are as many paths as there are non-defaulted users of PTDAs.

The U shape in the above glidepaths is unique and designed to (1) manage sequence of return risk near retirement and (2) extend the life of assets in retirement by re-risking, following the guidance of Kitces and Pfau.

Also, the PTDA recognizes the retirement date as the actual day, rather than grouping the participant into 5-year or 10-year age bands. SDPs can change the retirement date at will. The system can be “tricked” by choosing a later or earlier date than actually anticipated. An earlier date increases safety, and a later one increases risk.

Master PTDA for defaulted participants is the QDIA

The PTDA structure gives the 401(k) sponsor great flexibility in designing a unique custom target date fund (TDF) QDIA for all, thus conforming to DOL guidance to match the TDF glidepath to the demographics of the workforce. Specifically, the sponsor chooses the appropriate risk for the QDIA by blending the Conservative-Moderate-Growth glidepaths shown in the exhibit above.

The sponsor builds a master PTDA for all defaulted participants that is a custom one-size-fits-all-set-it-and-forget-it target date fund QDIA. Academic lifetime investment theory argues for the very safe Conservative path in the exhibit. But current common practice (“Industry” in the exhibit) is much riskier, even though providers say they follow the theory.

Better investments

Importantly, the investments used in PTDAs are intended to be the best in each asset class, rather than limited to the proprietary funds of a particular investment manager, as is the case with most off-the-shelf TDFs. A common complaint about TDFs is that the underlying management is all proprietary, so you pay a fund company to hire itself as an asset manager in addition to its glidepath.

Conclusion

There is an outcry for personalization in 401(k) investments because investing is personal. But this simply cannot happen for defaulted participants, because they do not want to engage. The best that can be done for the plan’s QDIA is a master PTDA, customized to the workforce demographics.

SDPs do want to engage, so personalization does work for them.

Ron Surz is president of Target Date Solutions, developer of the patented Safe Landing Glide Path and Soteria personalized target date accounts. He is also co-host of the Baby Boomer Investing Show. Surz’s passion is helping his fellow baby boomers at this critical time in their lives when they are relying on their lifetime savings to support a retirement with dignity, so he wrote a book, “Baby Boomer Investing in the Perilous 2020s,” and he provides a financial educational curriculum.

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