Sunday, 8 Jun 2014 | 11:17 AM ETFinancial Times
America's sprawling 401(k) pension system will turn cash flow negative in 2016, threatening disruption for asset managers and selling of equities, according to analysis by Cerulli Associates, a research house.
The $3.5 trillion system attracted fresh contributions of $300 billion in 2012, with $276 billion either withdrawn as cash by retirees or rolled over into individual retirement accounts (IRAs), Cerulli estimated.
However, by 2016 it forecasts that inflows will be $364 billion and outflows $366 billion, with the deficit only widening year on year after that as the core of the baby-boomer generation retires.
How best to invest funds in 401(k) plans and IRAs
"This has significant implications for asset managers and other financial services providers," said Bing Waldert, a director at Cerulli. "It is going to be a disappointment for a lot of fund managers that have put a lot of effort into the DC [defined contribution pension fund] market.
"For asset managers, the consistent contributions are particularly appealing and provide a source of positive flows even in poor markets when a firm may experience outflows from other segments of the industry."
The largest managers in the 401(k) market are Fidelity Investments; Canada's Power Financial, which owns Great-West Financial and Putnam Investments; TIAA-CREF; Vanguard; ING of the Netherlands and Prudential Financial of the US.
Surge in 401(k) balances, but not enough to retire
Funds run by such managers are typically among 10-20 options available to 401(k) savers, but when money is rolled over into an IRA, they face far stronger competition.
"In IRAs you are not just competing against asset managers, you are competing against the world. There are insurance-based products, ETFs [exchange traded funds] and individual securities. There is more freedom and flexibility," said Mr Waldert.
What’s next for the 401(k) industry?
Fidelity and Charles Schwab, which run direct-to-consumer platforms, are significant providers in the IRA market, alongside wealth managers such as Merrill Lynch and UBS. Vanguard also has a strong foothold.
Amin Rajan, chief executive of Create Research, a consultancy, said IRAs tend to have a 20-35 per cent exposure to equities, compared with 45-60 per cent in 401(k) plans. This suggests equity-focused houses could lose market share to bond-based rivals such as Pimco and Principal Global Investors as the demographic changes mean the 401(k) system shrinks relative to the IRA market, which is already larger at about $5.4 trillion.
High fees eroding many retirement accounts
Sue Walton, director at consultant Towers Watson Investment Services, agreed, saying: "People go to the extremes. They get to retirement heavily weighted to equities and they make this shift to go too conservative", buying low-risk fixed income and money market funds.
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Mr Rajan believed the wider US DC market, encompassing both 401(k)s and IRAs, would turn cash flow negative by 2020, following in the footsteps of the defined benefit pension market.
Mr Waldert said that regulators could intervene to slow the transition from 401(k)s to IRAs, given concerns that the costs of managing assets in an IRA tend to be far higher than the institutional pricing levels secured by 401(k)s.
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