The Prudent Fiduciary

Scott Pritchard | Principal

A look at the major issues that are shaping fiduciary best practices today.

A Change May Not Do You Good

September 2008

In the midst of the presidential campaign season you only have to listen briefly to both candidates to hear what word is resonating most with the electorate…change. At their recently completed conventions, both candidates made their case for why they are the candidate most likely to bring about the change that we all seem to want.

As we approach the fourth quarter, many plan sponsors may be considering a change of their own. The market downturn of the past year has resulted in decreased 401(k) balances and many plan sponsors will be seeking better performance from a new 401(k) provider.

But will a new provider truly be able to deliver better performance?

In the August 2008 edition of The Journal of Finance, Dr. Amit Goyal and Dr. Sunil Wahal published a study entitled “The Selection and Termination of Investment Management Firms by Plan Sponsors”. Their research found that plan sponsors typically choose to terminate investment managers based on poor historical returns. Conversely, plan sponsors select new investment managers based on a strong historical track record.

In reality, however, the ubiquitous disclaimer “Past performance does not guarantee future results” is not just a disclaimer, but is completely true. Goyal and Wahal found that the performance of “new” investment managers largely mirrored, and often even trailed, the performance of the “old” investment managers.

So if you are unhappy with the returns achieved by your plan and are considering a change in your 401(k) provider, don’t overemphasize historical returns. Fiduciaries of retirement plans should consider a potential provider’s stated investment philosophy, their approach to delivering participant advice, their commitment to following a prudent process, their access to low-cost institutional funds and their commitment to the transparency and reasonableness of fees. These factors will have a much greater likelihood of improving the performance of your plan than merely chasing returns.

The bottom line is that, if a change is indeed in order, make sure it is a change that will truly make a difference in your plan.

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