Deep Thoughts on Administration: I Wish I Could Pack in a Carry-On Bag

By Shannon M. Edwards

Shannon M. Edwards has been in the retirement plan industry for over 30 years. She founded TriStar Pension Consulting more than 20 years ago. Ms. Edwards has been a credentialed member of ASPPA since 1996. She formerly served as a member at large on the board of directors of the American Retirement Association (ARA). She currently serves on the ASPPA Leadership Council, the ARA Women in Retirement Council, and the ARA Legislative Relations Committee. She has co-chaired the ARA Women in Retirement Conference (WiRC) as well as the ASPPA TPA Growth Summit. In addition to ASPPA, Ms. Edwards is a credentialed member of the National Institute of Pension Administrators. In addition to the volunteer work she does for ASPPA and ARA, she volunteers for several local non-profits in Oklahoma. Ms. Edwards and her husband have three children. They are all die hard Sooner fans and thanks to her middle son, they are now adopted Fightin’ Texas Aggies. When she is not working to empower participants to be able to retire on their terms, she enjoys spending time with her family in the mountains, on the golf course, and on the beach.

Have you ever been paralyzed by a choice? Which shoes should I take to ASPPA Annual? I can’t ever decide, so I end up taking two suitcases and all of them. Then I get there and wear one or two pairs. The result? I regret it when I get home and have to unpack. I envy my friends who can pack for ASPPA Annual in a carry-on bag. Which fabric should I choose for the new curtains? I can’t ever decide, so I just don’t redecorate. On road trips with the family, my middle child used to suffer from choice overload when asked to choose a snack for the car from the gas station during a potty stop. He could easily turn a 15-minute stop into a 30-minute ordeal. We finally had to give him a time limit, and if he couldn’t make a choice within the allotted time, he didn’t get a snack (which usually ended in a complete and total emotional meltdown as we left the gas station).

If we are paralyzed by choices as simple as what shoes to pack or what fabric to choose or what candy bar to buy on a road trip—choices that don’t actually have a lasting impact on our lives—I can only imagine what plan participants must go through when looking over the investment options they must choose from in their 401(k) plans. Considering that the majority of plan participants are not savvy investors, in fact, some of them may not understand what a mutual fund is.

In addition, the financial advisor for their 401(k) plan may be the only financial advisor they ever meet.

We have been taught that having the right to choose is freedom. Our country was founded on the right of each individual to have choices and to make their own decisions. The more choices we have, the freer we are. With the advent of participant-directed 401(k) plans in the 1990s came the ability for the participants to be in control of their own retirement destiny. It was supposed to make them feel empow- ered. Plan sponsors were told that it reduced their fiduciary liability to give participants the authority to make their own investment decisions. It would allow the participant to tailor an investment strategy based on his or her age and risk tolerance, instead of the trustee attempting to build and manage an investment portfolio that would suit the needs of the entire group of participants in the plan. By giving the participants control over their own investment strategy, the risk
of the trustee being sued for not investing the money properly for a 25-year old versus a 55-year old would be reduced. All they had to do was give the partici- pants the choice and provide them with a menu of investment options to choose from.

There was a period of time when plan trustees were also told that more choice was better. Don’t just offer the participants 10 or 15 funds to choose from. If the recordkeeper allows you to have a menu of 200 funds, then offer all 200, and plan sponsors did just that. However, over time, studies in behavioral finance and/ or economics have shown that more choice does not always lead to better outcomes. In fact, participants are often paralyzed by their choices and, instead of taking action, they do nothing. Conversely, if they do take action, they may overconsume or invest in too many funds and some of those funds may be redun- dant investments, leaving them overexposed in certain investment classes. The worst result of them all is when the participant not only does not take action to direct their investment, but even worse, doesn’t even enroll in the plan.

In the Psychology of Investing, John R. Nofsinger refers to a study done in a grocery store where they studied the choices given to shoppers and illustrated the fact that shoppers given too many choices sim- ply don’t choose. A store display of six flavors of
jam resulted in more sales than a store display of 24 flavors. He states that, “an overwhelmed employee delays making decisions so long that he never ends
up participating in the plan. One study shows that the probability of participation by an employee falls by 1.5-2 percent for every 10 mutual funds added to the menu. Having fewer funds to choose from leads to higher participation.”

In a 2010 study on the impact of choice overload called “Choice Proliferation, Simplicity, and Asset Allocation,” researchers Sheena S. Iyangar and Imer Kamenica discovered that, for every 10 investment options in a plan, participation decreases by 2 percent. “On average, for every 10 funds added to a plan, the allocation to equity funds decreases by 3.28 percentage points.”

While writing this column, I had the pleasure of visiting with my friend, Josh Itzoe, founder of Fiduciary Wor(k)s and author of The Fiduciary Formula. Josh shared with me some of his insights, both from the research that’s been done by others and his own as a fiduciary expert. Josh stated that too few funds aren’t good, but too many options lead to suboptimal choices and paralysis by analysis. He said that, on average, most plans currently offer 17-20 fund options. However, due to target date fund options, the average number of funds an actual participant holds is two to three. He suggests starting simple. Use the power of the default to make the participant’s first decision as simple as possible. Don’t make investment complexity the first hurdle they have to clear. Too much complex- ity and too many options are setting the participants up for failure, not success. Make it simple for the 95 percent of the masses who want simplicity then add some freedom for the 5 percent who want choices.

I am writing this column while on vacation, sitting on the balcony of a hotel that overlooks the beach.

I failed to mention that I also suffer from analysis paralysis when packing for the beach. I brought way too many sundresses, way too many swimsuits, and way too many shoes. I need to live by my own advice, and start keeping it simple, so that I too can pack in a carry-on bag like my friend Kelsey Mayo, who amazes me with her packing skills every time I travel with her. My point to this is that we need to keep
the choices we have to make and plan participants have to make as simple as possible. Getting them into the plan is the most important step for their success, and if choice overload is a barrier to that, we need
to address that. Plan sponsors need to offer a quality default option for them, so that the only choice they have to make is to opt into the plan.