PLANSPONSOR 2009 Ultimate Buyer’s Guide: Stable Value: Stable, Valued

Quoted on
(April 2009)
PLANSPONSOR 2009 Ultimate Buyer’s Guide: Stable Value: Stable, Valued
By Louis Berney

Even in these difficult days, with many 401(k) account balances plummeting, stable-value funds are living up to their reputation by continuing to offer positive­ returns to participants. Yet, experts in the fixed-income market advise sponsors­ to vet stable-value issuers and their wrap providers more closely than ever to ensure that the underlying securities­ and wrap guarantees are healthy and supported with reserve funds.

“Stable-value funds can be a silver lining in the cloud that is now hovering above the heads of employees and their 401(k) plans, particularly those who may have seen their balance dip dramatically over the last six months,” says Cynthia Mallett, Vice President, Product and Market Strategies, for MetLife’s Institutional Business division.

Sponsors and participants seem to be attracted by that silver lining. In December, when Prudential Retirement held a Web seminar on stable value, more than 800 plan sponsors called in to participate.

At the end of 2008, 401(k) assets in stable funds reached $516 billion, up 24% over 2007, according to Gina Mitchell, Executive Director of the Stable Value Investment Association. She also points out that, while most 401(k) investment funds declined in value in 2008, stable value netted an average yield of 4.75% through the first 11 months of the year. While returns have declined slightly in comparison with a year ago, they remain in positive territory, Mitchell says.

Yet, with the market still experiencing significant volatility and dark clouds hanging over some of the companies that provide the wraps, manage the bonds, and issue and distribute stable-value funds, sponsors looking at stable value need to be vigilant.

The critical factor for sponsors to consider is whether an issuer of stable value is secure, stable, and trustworthy, and has the resources to support the guarantee of assets.

Chris Cumming, Senior Vice President of Marketing with Great-West Retirement Services, recommends that sponsors engage in more intensive due diligence when monitoring stable-value funds today. With the market struggling, he explains, sponsors should be sure they have a grasp of the underlying securities that make up a stable-value fund. Where, before, sponsors might have been interested primarily in just fees, duration, and rates of return, they now also should be asking about the insurance companies or collective trusts that provide the wraps (that guarantee the principal and accumulated interest of stable-value products­).

In addition, Cumming suggests, sponsors­ should scrutinize the credit rating of the funds and their securities, as well as look at whether the funds contain any defaulted securities, and how much fund managers are holding in escrow to cover the possibility of future defaults.

“Some of these contracts might not be as secure as they look,” says James J. Mallozzi, Senior Vice President and Head of the Institutional Solutions Group for Prudential Retirement. He advocates that sponsors be sure they have an iron-clad contract with their stable-value providers that cannot be changed without their consent. He also suggests sponsors study the quality of the fund portfolio and evaluate its diversity and duration (an issue that can have an impact on returns). Mallozzi further urges that sponsors, as a way of fulfilling their fiduciary obli­gations to participants, discuss issues of concern with their stable-value wrap and bond managers.

Two wrap providers, AIG and UBS, recently dropped out of the business. However, that does not mean their guarantees were voided. When AIG withdrew, bond managers were able to raise sufficient liquidity to meet the demands. With the departure of AIG and UBS, there has been a consolidation of funds in the stable-value arena. Mitchell predicts that new, nontraditional wrappers might enter the market, something she sees as a positive step because plan sponsors will see greater diversity among providers.

Clint Edgington, President and Founder of Beacon Hill Investment Advisory, says that, with the current liquidity in the fixed-income market, sponsors need to review their stable-value holdings. “The divergence from the underlying book value to the market value should be examined,” he says. “Current liquidity issues are driving the market value to drop below book value—which can cause some problems.”

If the book and market values diverge, “the more risk there could be,” says Mallozzi, and the insurance provider might be called upon to put up the funds to fill the gap.

The cost of stable-value funds (about 41 to 45 basis points) remains below that of mutual funds, but many think the price may go up in response to increasing market risk.

Despite the urgency for sponsors to keep a close eye on stable-value funds, the products have been a boon to plans in a time of bust. “The stable-value market has been amazingly resilient in the economic downturn,” says Mallozzi, who points out that not a single stable-value provider has failed to honor its obligations during this era of market chaos.