NING TANG, University of Pennsylvania - The Wharton School
Email: Ntang@wharton.upenn.edu
OLIVIA S. MITCHELL, University of Pennsylvania - Insurance & Risk Management Department, National Bureau of Economic Research (NBER)
Email: mitchelo@wharton.upenn.edu
GARY R. MOTTOLA, Vanguard Center for Retirement Research
Email: gmottola@vanguard.com
STEPHEN P. UTKUS, Vanguard Center for Retirement Research
Email: steve_utkus@vanguard.com

Though millions of US workers have 401(k) plans, few studies evaluate participant investment performance. Using data on over 1,000 401(k) plans and their participants, we identify key portfolio investment inefficiencies and attribute them to offered investment menus versus individual portfolio choices. We show that the vast majority of 401(k) plans offers reasonable investment menus. Nevertheless, participants 'undo' the efficient menu and make substantial mistakes: in a 20-year career it will reduce retirement wealth by one-fifth, in fact, more than what a naive allocation strategy would yield. We outline implications for plan sponsors and participants seeking to enhance portfolio efficiency: don’t just offer or choose more funds, but help people invest smarter.

JACK VANDERHEI, Employee Benefit Research Institute (EBRI), Temple University - Risk Management & Insurance & Actuarial Science
Email: vanderhei@ebri.org
SARAH HOLDEN, Investment Company Institute
Email: sholden@ici.org
LUIS ALONSO, Employee Benefit Research Institute (EBRI)
Email: alonso@ebri.org

Over the past two decades, 401(k) plans have grown to be the most widespread private-sector employer-sponsored retirement plan in the United States, and now serve as the most popular defined contribution (DC) plan, representing the largest number of participants and assets. In 2008, 49.8 million American workers were active 401(k) plan participants. By year-end 2008, 401(k) plan assets had grown to represent 16 percent of all retirement assets, amounting to $2.3 trillion. In an ongoing collaborative effort, the Employee Benefit Research Institute (EBRI) and the Investment Company Institute (ICI) collect annual data on millions of 401(k) plan participants as a means to accurately portray how these participants manage their accounts. This paper is an update of EBRI and ICI’s ongoing research into 401(k) plan participants’ activity through year-end 2008. The report is divided into five sections: The first describes the EBRI/ICI 401(k) database; the second focuses on changes in participant account balances over time, analyzing a group of consistent 401(k) participants; the third presents a snapshot of participant account balances at year-end 2008; the fourth looks at participants’ asset allocations, including analysis of 401(k) participants’ use of lifecycle, or target-date, funds; and the fifth focuses on participants’ 401(k) loan activity.

Looking at consistent participants in the EBRI/ICI 401(k) database over the five-year period from 2003 to 2008 (which included one of the worst bear markets for stocks since the Great Depression), the study found: After rising in 2003 and for the next four consecutive years, the average 401(k) retirement account fell 24.3 percent in 2008; the average 401(k) account balance moved up and down with stock market performance, but over the entire five-year time period increased at an average annual growth rate of 7.2 percent, attaining $86,513 at year-end 2008; the median (mid-point) 401(k) account balance increased at an average annual growth rate of 11.4 percent over the 2003-2008 period to $43,700 at year-end 2008. The study also found: The bulk of 401(k) assets continued to be invested in stocks; three-quarters of 401(k) plans included lifecycle funds in their investment lineup at year-end 2008; new employees continued to use balanced funds, including lifecycle funds; 401(k) participants continued to seek diversification of their investments; and participants’ 401(k) loan activity was stable.

ALBERT FEUER, Law Offices of Albert Feuer
Email: afeuer@aya.yale.edu

In Kennedy v. Plan Administrator of the DuPont Savings and Investment Plan (the “Kennedy Decision”), a unanimous Supreme Court appeared to proclaim a “bright-line rule” that plan documents determine benefit distribution rights. However, by misreading ERISA and its own precedents, the Supreme Court needlessly undermined basic ERISA principles with respect to the determination and the protection of ERISA benefit entitlements, the coverage of the prohibition on the alienation of pension benefits (the “Alienation Prohibition”) and the rules pertaining to QDROs.

The Court thereby laid the groundwork for considerable benefit litigation, much of which could have been avoided, focusing on issues such as
• the effectiveness of benefit waivers (including, but not limited to, disclaimers) that are not QDROs for the many ERISA plans that have no disclaimer provisions;
• the effect on benefit entitlements of various disclaimer provisions in the governing documents of ERISA plans;
• the requirements for a domestic relations order (“DRO”) to be a QDRO;
• the effect on benefit entitlements of ERISA plans not subject to the Alienation Prohibition, such as a life insurance plan or a top-hat plan, of a DRO that “satisfies” the QDRO requirements;
• the effects of revocation upon divorce provisions for pension plans subject to the Alienation Prohibition; and
• the effect of ERISA on the determination and protection of entitlements to distributed ERISA benefits.

Much of this litigation would be tamped down if the Treasury Department amended the Treasury Regulations to clarify (1) the significance of the Alienation Prohibition, such as its applicability to disclaimers, waivers and levies, and (2) the significance of the QDRO requirements. The article proposes draft regulatory language to achieve those goals.

JINGJING CHAI, Goethe University Frankfurt - Department of Finance
Email: chai@finance.uni-frankfurt.de
WOLFRAM J. HORNEFF, Goethe University Frankfurt - Department of Finance
Email: horneff@finance.uni-frankfurt.de
RAIMOND MAURER, University of Frankfurt - Faculty of Business and Economics
Email: Rmaurer@wiwi.uni-frankfurt.de
OLIVIA S. MITCHELL, University of Pennsylvania - Insurance & Risk Management Department, National Bureau of Economic Research (NBER)
Email: mitchelo@wharton.upenn.edu

This paper derives optimal life cycle portfolio asset allocations as well as annuity purchases trajectories for a consumer who can select her hours of work and also her retirement age. Using a realistically-calibrated model with stochastic mortality and uncertain labor income, we extend the investment universe to include not only stocks and bonds, but also survival-contingent payout annuities. We show that making labor supply endogenous raises older peoples’ equity share; substantially increases work effort by the young; and markedly enhances lifetime welfare. Also, introducing annuities leads to earlier retirement and higher participation by the elderly in financial markets. Finally, when we allow for an age-dependent leisure preference parameter, this fits well with observed evidence in that it generates lower work hours and smaller equity holdings at older ages as well as sensible retirement age patterns.

COURTNEY COILE, Wellesley College - Department of Economics, National Bureau of Economic Research (NBER)
Email: CCOILE@WELLESLEY.EDU
PHILLIP B. LEVINE, Wellesley College, National Bureau of Economic Research (NBER)
Email: PLEVINE@WELLESLEY.EDU

Recent dramatic declines in U.S. stock and housing markets have led to widespread speculation that shrinking retirement accounts and falling home equity will lead workers to delay retirement. Yet the weakness in the labor market and its impact on retirement is often overlooked. If older job seekers have difficulty finding work, they may retire earlier than expected. The net effect of the current economic crisis on retirement is thus far from clear. In this paper, we use 30 years of data from the March Current Population Survey to estimate models relating retirement decisions to fluctuations in equity, housing, and labor markets. We find that workers age 62 to 69 are responsive to the unemployment rate and to long-run fluctuations in stock market returns. Less-educated workers are more sensitive to labor market conditions and more-educated workers are more sensitive to stock market conditions. We find no evidence that workers age 55 to 61 respond to these fluctuations or that workers at any age respond to fluctuating housing markets. On net, we predict that the increase in retirement attributable to the rising unemployment rate will be almost 50 percent larger than the decrease in retirement brought about by the stock market crash.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

MOMI DAHAN, Hebrew University of Jerusalem - School of Public Policy, CESifo (Center for Economic Studies and Ifo Institute for Economic Research)
Email: momidahan@mscc.huji.ac.il
TEHILA KOGUT, affiliation not provided to SSRN
Email: tkd@mscc.huji.ac.il
MOSHE SHALEM, affiliation not provided to SSRN
Email: moshesh@mof.gov.il

This paper examines whether policymakers, economists at the Israeli Finance Ministry, act in their personal pension decisions in accordance with the rational behaviour assumptions underlying the pension policies they advance. We find that while economists' decisions regarding three other important decisions such as buying an apartment, a car and a large appliance, are largely in line with rational models, pension decisions deviate significantly from these models. A large share of these policymakers hardly search for relevant information regarding their chosen pension fund, do not know the most necessary information and consider only one option before choosing the preferred pension fund. A significant difference was found between specialized policymakers (economists in the Pension Division) and general policymakers (economists in all other Divisions) showing that specialized policymakers are significantly less biased.

HOWARD IAMS, U.S. Social Security Administration
Email: Howard.m.iams@ssa.gov
BARBARA A. BUTRICA, The Urban Institute
Email: bbutrica@ui.urban.org
KAREN E. SMITH, Urban Institute
Email: ksmith@ui.urban.org
ERIC J. TODER, National Bureau of Economic Research (NBER)
Email: etoder@his.com

This article uses a microsimulation model to estimate how freezing all remaining private-sector and one-third of all public-sector defined benefit (DB) pension plans over the next 5 years would affect retirement incomes of baby boomers. If frozen plans were supplemented with new or enhanced defined contribution (DC) retirement plans, there would be more losers than winners, and average family incomes would decline. The decline in family income would be much larger for last-wave boomers born from 1961 through 1965 than for those born from 1946 through 1950, because younger boomers are more likely to have their DB pensions frozen with relatively little job tenure. Higher DC accruals would raise retirement incomes for some families by more than their lost DB benefits. But about 26 percent of last-wave boomers would have lower family incomes at age 67, and only 11 percent would see their income increase.

IRENA DUSHI, Social Security Administration
Email: irenad1@gmail.com
MARJORIE HONIG, Hunter College, City University of New York - Department of Economics
Email: Marjorie.Honig@hunter.cuny.edu

This research examines the determinants of eligibility and participation in 401(k) plans using two cross-sections of data from the Health and Retirement Study. Our sample consists of workers ages 51-56 representing two cohorts: the original HRS cohort born 1931-41, first interviewed in 1992, and the Early Baby Boomer (EBB) cohort born 1948-53, interviewed in 2004. Participation in 401(k) pensions in the EBB cohort is nearly 50 percent greater than that of the earlier cohort. This substantial growth in 401(k) plan participation over a relatively brief period may reflect intrinsic differences in tastes between the two cohorts, changes over this period in the external environment regarding retirement saving, or the joint effects of both influences.