Wall Street WARZONE

Your 401(k) Plan Managers: In a Bear Market, You Lost 37%, While “They” Got Richer By a Billion. Yes, It’s Time America Got a New Retirement System!

by Paul B Farrell, JD, PhD
| | 5/13/2010

Since the mid-nineties, when the Wall Street powerhouses announced a strategic shift from a commission-based business model to an asset-based model, all retirement plans have been targeted as one way to accumulate lots more assets under management, now almost $3 trillion. This trend is accelerating as Corporate America began replacing employer-funded pension plans with 401(k)s funded by individual employees.

Experts see many problems in employer-sponsored 401(k) retirement plans, which one BusinessWeek columnist jokingly called “201(k)” plans. A big failing in the system is the way fund plan managers like Fidelity, State Street, Putnam, Metlife and others lock in company executives and naïve investors to a system of fund choices that are too restrictive, fees that are often hidden and excessive, while trusting corporate managers and employees remain vulnerable to exploitation and manipulation. College tuition plans have similar problems.

Several years ago economist Bill Wolman and Anne Colamosca, authors of The Great 401(k) Hoax, said it’s “a time bomb ready to go off.” In fact, America’s 401(k) plan has already “bombed” because $40,000 is no long-term retirement nest-egg in an age where a retiree’s money must last 20-30 years, and need a million invested to generate a comfortable cashflow in retirement. As the authors point out, many employees don’t even bother to enroll, and of those that do, 80 percent spend the money when they change jobs, rather than rollover into a IRA. Worse yet, during the 2000-2010 decade, many 401k plans actually lost big money. This would be funny, if it wasn’t such an ever-increasing disaster.

Perhaps the biggest enemy is your 401(k) plan manager. Wolman and Colamosca say investors are making a huge mistake letting employers, Corporate America, Wall Street and politicians do your thinking for you. Why? Because they’re your enemy, they created and they control the 401(k) for their benefit, not yours. The fact is, 401(k) managers get rich off naïve investors.

How bad is it? A recent Forbes article, “Retirement Rip-Off,” lambasted the industry. Using data from Dr. Mundell’s Center for Retirement Research at Boston College: “Even as 401(k) balances grow in size and importance, fees remain high and poorly disclosed.” There are $2.9 trillion savings in 401(k)-type accounts. Fees on these 401(k)’s are estimated to exceed those of traditional pension funds by 1%. That means 401(k) savers are paying $29 billion in excess fees to the fund industry. And in a Bloomberg Markets report, retirement planning consultant Stephen Butler says, “Hidden fees of 1% can reduce a workers 401(k) returns by 15% over 30 years.”

The biggest 401(k) plan manager—the biggest problem?

Since Fidelity is the biggest manager with over 11 participants, they’re often cited as an example of what’s wrong with the system: During the three bear market years prior to publication of The Great 401(k) Hoax, Fidelity’s two key stockholders saw their net worth increase on the Forbes 400 list of the richest Americans. Their wealth increased more than $1 billion between 1999 and 2002, a bear market—while Fidelity’s equity funds lost 37% of their net worth for investors. Today the owners are worth a total of $20.5 billion.

Excessive fees help: Fidelity’s largest fund, Magellan, manages about $60 billion in assets. It’s an “index-fund-in-disguise,” yet its expense ratio is three times comparable index funds, generating about $500 million in annual management fees during the bear market. Compare Magellan’s fees to Vanguard 500 Index, with about the same size assets. Magellan fees were several times greater for a fund that was actually an index fund in disguise. And to add insult to injury, Vanguard was out-performing Magellan during the bear market—while Fidelity’s investors lost.

Big plan managers love adding assets, piling on fees

Fidelity’s investors, of course, were not as lucky as Fidelity’s insiders. In the three-year bear market from 2000-2002, Fidelity Magellan managed to lose an average of 15 percent each year, about 45 percent of its investors money, in … while Fidelity’s owners, directors and fund managers were still getting rich.

And to add insult to injury, Fidelity’s board of directors ten directors were getting between $250,500 and $316,500 annually for part-time work. That’s over ten times what the average American makes full-time. And while Fidelity refuses to disclose the compensation paid its managers, we know that of 43,000 American fund managers the average is paid $436,500 a year, so we can assume Fidelity’s managers are doing as well or better. Bottom line: America’s biggest 401(k) plan manager lost an awful lot of your money in the three year bear market, and yet Fidelity’s owners, directors and portfolio managers continue to live like rock stars. Something’s seriously wrong with America’s 401(k) system.

The big hoax America’s sweeping under the rug

The Great 401(k) Hoax, was an eye-opener. And the recent work of Drs. Alicia H. Munnell and Annika Sundén of the Center for Retirement Research Boston College adds a big exclamation point, telling us that things are getting worse, not better. Listen to the 2006 conclusion updating their book, “Still Coming Up Short: The Challenge of 401(k) Plans: 

“Policymakers and the business community have come to recognize that 401(k) plans must be easier and more automatic if they are to serve as an effective vehicle for retirement saving. These plans have shifted all the risk and responsibilities for retirement saving from the employer to the employee and many employees make mistakes at every step along the way. A significant percent of eligible employees fail to join the plan, few contribute the maximum, most do not diversify their investments or re-balance their accounts over time, many over-invest in company stock, and roughly half of participants cash out when they change jobs. Automatic enrollment, automatic increases in the deferral rate and automatic rollovers will all help workers accumulate larger balances in their 401(k) plans. But the challenge is great, because the median 401(k)/IRA balance in 2004 for household heads with a plan was only $40,000. Moreover, the focus to date has been on the accumulation phase of 401(k) plans—that is, the buildup of assets during the employee’s working years. The real challenge will come as those dependent on 401(k) plans arrive at retirement and have to figure out how to allocate their 401(k) balances over their remaining lifetime.”

Our hats are off to experts like Munnell and Sundén, Wolman and Colamosca for exposing the problems. But the hard reality is things are getting worse because Washington politicians favor Corporate America, Wall Street and 401(k) plan managers like Fidelity over the individual investor. Add all these 401(k) difficulties to the mounting problems with Social Security and Medicare and the under-funded corporate, municipal and state government pensions and it’s likely that matters will get worse rather than improve—making the 401(k) an even bigger hoax until 2011 when this retirement bomb will explode in the faces of the 76 million boomers as they reach retirement age, shake their heads and ask, “what the #@&% happened?”

FirstPubDate: Dec’02

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