Automated advice is making a bigger dent but the personal touch is favored by a wide margin

Brookes Note: For RIAs who want to get into the 401(k) business, theres good news. People very badly want to be advised by a competent professional, according to a new Schwab study. Im sure if the airlines develop cut-rate fares for planes flown by computers, some people will fly them if theyre shown safe in test flights. Many others wont. The people who wont might also prefer not to be consumers of ‘automated 401(k) advice.

Individual 401(k) investors want, need and benefit from financial advice especially if there is a human touch, according to a Schwab study that sheds new light on a market many advisors are eyeing.

It is clear from our study findings and our personal experience with clients that people are more likely to engage in professional help if it is provided in a personalized one-on-one setting, said Catherine Golladay, Charles Schwab vice president of 401(k) education and advice in a release.

Procrastination and confusion

Many 401(k) participants dont receive any advice on these retirement balances because of procrastination, distraction or confusion, she adds. RIAs have been largely on the sidelines in this business because they perceived it to be too complicated, unprofitable or because of concerns they could run afoul of regulations.

The Department of Labor is in the midst of developing regulations to clarify how advisors to plan participants can be paid, and who can serve as advisors.

According to the Charles Schwab New Rules of Engagement Study, based on responses of 1,005 U.S. consumers who are employed full or part-time and participated in their companys 401(k) retirement plan from June 9 to June 17, many plan participants want more personal advice than they are getting. The Koski-run study also shows that those who receive advice are more confident investors than those who dont.

For now, most plan sponsors provide participants, especially those with lower balances, automated or semi-automated services provided by companies such as GuidedChoice, Fidelity and Financial Engines.

Automated emails

‘Automated services can include rebalancing of portfolios and financial advice delivered from call centers and online. Additional service could include keeping the participant engaged in the process by emailing them an exhortation to enroll, to tell the maximize their employer match or to react to a life event like a marriage.

The days of receiving a large enrollment brochure and being told to call a number and pick the funds you want are over, says Beth McHugh, vice president of market insight for Fidelity Investments.

More advanced advice methods are allowing participants to realize better returns, according to the study. See the chart provided in a Nov. 2007 Schwab press release:

Schwab chart published in 2007 shows

a little advice goes a long

way for 401k participants

These findings indicate that RIAs could play a bigger role in the 401(k) business, but the regulatory framework is still not clear enough, says Craig Watanabe, principal with Penniall & Associates, Inc. an RIA in Pasadena, Calif. Penniall & Associates has about $600 million in 401(k) assets under management and $400 million in non-retirement assets. Its largest plan is $65 million, but the bulk of its accounts are $5 million to $25 million.

Growing admission

Automated advice is not on par with one-on-one advice delivered by a competent professional, he says. The Pension Protection Act of 2006 did create provisions to allow participant advice under an Eligible Investment Advice Arrangement (EIAA) where fiduciary advisers get paid. The DOL has not finalized the regulations but there is a growing admission for needed change within the 401(k) arena.

Still, McHugh of Fidelity says that her company is experiencing rising success with automated 401(k) advice.

Weve just seen an incredible uptick. Between January of 2008 and July of 2010, participants had 1.8 million guidance sessions using our planning tools; its crossing all age groups and participant demographics. Its a misperception that its only for the wealthy.

Opinions aside, the need for professional advice on 401(k) is coming into sharper focus, however it is delivered.

Watanabe traces a continuum, from the era when defined benefit pension plans were ubiquitous, to the introduction of defined contribution plans, and now to a regulatory-framework-in-the-making to allow more personalized advice.

Craig Watanabe: PPA opened up a

new solution professional advice.

Much of this has yet to

be implemented but there will clearly

be opportunities for RIAs to help

participants of 401k plans.

Not always the case

Employers were not adequate stewards for their employees retirement plans, so ERISA brought about the participant-directed defined contribution plans of which the 401(k) is the most popular. The reasoning was the participants have a vested interest and will do a better job of taking care of their own retirement needs. However, as pointed out in the Schwab study, this has not necessarily been the case.

Schwabs study reinforces the point that a human financial advisor could make a big difference:

Fifty-one percent of 401(k) investors surveyed say they prefer a personalized touch over online tools (23%) or brochures (4%).

Sixty-five percent of survey respondents need some kind of motivation such as from a one-on-one advisor to use advice, and more than one third (34%) say they would like some kind of proof that advice would improve their investment returns.

Trust for personal advisors

Seventy-four percent of people trust personal financial advisors, compared with 59% who trust financial institutions as a source for savings and investing information and guidance.

Chart from Schwab Engagement Study 2010

Its clear from Schwabs study that plan sponsors are open to making professional advice available to participants. Some 74% of Schwabs plan sponsor clients offer 401(k) participants access to professional third-party investment advice That amount has grown considerably since 2005, when it stood at 42%.

But its also clear from the study that just offering a participant personalized advice doesnt mean that he or she will seize the opportunity.

Theyll get around to it

Though a majority (55%) of participant survey respondents say they would use free personalized advice if their employer made it available, less than 10% of people with access to advice actively use it, according to the Schwab study.

Survey respondents cite these reasons for why they dont engage in 401(k) advice automated or otherwise even if it is available as part of their plan:

27% say they are getting financial advice outside of the workplace.

26% say they have more immediate concerns, such as day-to-day financial matters.

23% dont think they have saved enough money to warrant spending time to get help.

49% want to have more than $100,000 saved before taking the time to get advice.

Advice has had a favorable impact on the 401(k) participants who receive it, according to Steve Anderson, head of Charles Schwab Retirement Plan Services.

Confidence booster

Among 401(k) investors surveyed who have received advice in the last two years, 52% are confident in making investment decisions compared with 35% who want advice but have not received any. In addition, 69% of advice users believe they are good at saving in their 401(k) versus just 44% who want advice but have not received any.

401(k)s are the gateway to investing and retirement savings for millions of Americans, and employers and plan providers like Schwab have an opportunity to make a significant difference in peoples lives, Anderson said in a release. Getting more 401(k) investors engaged in professional advice needs to become a bigger priority for the industry, because we know that it has a positive impact.

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