Plan-Level Rate of Return — Useful or Useless?
Many people use plan-level rates of return to determine the quality of an investment lineup. However, several variables may impact plan-level rates of return making them not as useful as a plan management tool. They may actually be counterproductive when trying to determine the quality of an investment lineup. As an extreme example, you may have a lineup full of excellent mutual funds, but if your participants have 50 percent of their plan assets in a cash account, the plan’s effective rate of return would suggest a poor investment lineup. Furthermore, a reasonably well-funded plan with an appropriately conservative fund menu would have an average rate of return appear sub-par during a bull market.
This makes any conclusions based on average plan-level rates of return potentially misleading and probably counterproductive. A better idea is to focus on the investments that are designed to reflect the plan’s goals, objectives and participant demographic needs...like a well-selected target date fund (TDF). The TDF return rates, over a reasonable time period, make more sense for comparative purposes. These options are already optimized in terms of asset allocation and divisible by age group to obtain a more risk-based conclusion. Lastly, many experts project that the vast majority (more than 80 percent) of defined contribution assets will be in TDFs by 2020¹, which makes this evaluation even more meaningful.
- Center for Due Diligence