Members of the board that governs the federal government’s 401(k)-style retirement savings program were supportive Tuesday of a proposal to change how lifecycle (L) funds wind down their investment in stocks and equities as participants age, but ordered further study of the issue.
Currently, participants in the Thrift Savings Plan’s L funds sign up for the fund whose name most closely aligns with the year that they expect to retire. For instance, the L 2040 Fund is intended for federal employees who intend to retire somewhere around 2040, which is also the year at which the fund’s investment in equities reaches its lowest point of 20 percent. At retirement, the other 80 percent of a participant’s account is invested in more stable investments like bonds and securities.
But consultants with Mercer have suggested that the TSP shift its lifecycle portfolio investments to reach the 20 percent equity threshold upwards of 10 years after participants’ anticipated retirement date. They argued such a move could greatly extend the viability of retirees’ annuity payments with only a modest increase in risk.
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According to Mercer’s analysis of the TSP’s L 2040 Fund, the median account balance for participants in the portfolio’s target year would be $607,184 under the current investment roadmap, assuming such a participant is 39 years old and currently earns $79,000 per year. That person would see a total of 81 percent of their final year’s salary in retirement annuities—including TSP, Federal Employees Retirement System defined benefits and Social Security—and would likely draw down their TSP account by age 87.
But if the glide path is shifted so that the L 2040 Fund reaches the 20 percent equity investment benchmark in 2050, that person’s account balance rises to $630,869 in 2040, and they would see 82 percent of their final salary in annuities. It also would extend the life of TSP annuities until the person is 90 years old.
The downside to this proposal is that it nearly doubles the risk of a decline in participants’ account balance in their final two years of employment, from 7.3 percent under the current plan to 13.7 percent if TSP adopts the “through retirement” proposal.
“Overall, I think the key message is that we see some additional volatility around retirement [under the ‘through’ proposal], and it’s a concern that we don’t want to ignore,” Mercer’s Andrew Scheufele said. “But in order to extend participants’ drawdown period, it may make sense to take on more risk in order to improve long-term outcomes.”
TSP Director of Investment Sean McCaffrey stopped short of recommending implementation of the new investment strategy for lifecycle funds, noting the increase in risk as well as the upcoming influx of participants when the Blended Retirement System, which provides an employer match for members of the armed services, comes online in January. Beginning Jan. 2, all new recruits will automatically be enrolled in Blended; current military personnel will have all of 2018 to decide whether to opt into the program.
“Given the risk tradeoff relative to the already strong financial outcomes, these marginal benefits may not be so compelling,” McCaffrey said. “Especially with the inclusion of blended retirement, we have a dataset that’s still rapidly evolving, and we’d like to evaluate these populations for a little bit longer.”
While members of the Federal Retirement Thrift Investment Board, which governs the TSP, were more supportive of the idea of implementing Mercer’s proposal, they agreed more study must be done after Blended is up and running.
“ 'Through’ does a few things: It lets participants know that this is a retirement fund,” said board member Bill Jasien. “This isn’t a savings fund for one to withdraw from at retirement. And this will take care of them through retirement . . . The upside has to be taken into consideration, and there’s considerable upside.”
Board member Dana Bilyeu noted that most of the people who will be coming into TSP through Blended will be young people just starting their careers, which will give them plenty of time to learn the ins and outs of the new investment strategy, if implemented.
“The vast majority of new participants will default into the L 2050 Fund,” she said. “I’m not sure I’m all the way to where Bill is [in favor of this], but that fund’s the one with the longest glide path ahead, and that should give them enough time to think about it. I just don’t see how just because a huge group of very young people are coming on really changes that focus.”
FRTIB Chairman Michael Kennedy told staff to continue to study the issue after Blended comes online so that the board may revisit it next year.
“We’re about to bring a lot of participants on board soon, and I do want to see what our constituency base looks like as they come on board, whether it’s similar or dissimilar,” he said. “But we shouldn’t use that as a crutch, or else we could be sitting at this table a couple years from now discussing the same thing.”