Stable Value Fiduciary Responsibilities (pg. 2/2

Tracking Efficiency: As Judy Markland, a consultant with Landmark Strategies, recently pointed out in her article in the most recent issue of Stable Times, the Stable Value Industry Association’s newsletter, it is important for the stable value manager, whether in-house or outside professional, to be mindful of fluctuations in cash flows and their impact on blended rates. Cash flows can have a significant effect upon what we call the "tracking efficiency" of the fund. Since the participant is unavoidably going to compare the return on their stable value fund to other rates they may see at their local bank or credit union, it is important to have the current blended rate of the stable value fund be reasonably responsive to changes in the current levels of these rates. Stable value fund blended rates will always lag the current market some, but this does not generate discontent among participants when rates lag on the way down. However, the trick is to have current rates be reasonably responsive to interest rate increases to minimize doing a disservice to participants who retire or terminate after a period of depressed rates and to avoid discontent among active participants. Assertive duration management by the fund manager can address this issue and improve portfolio "tracking efficiency," but there needs to be a disciplined methodology.

Diversification/Credit Quality: Other topics to be addressed include sufficient, but not excessive, diversification; the quality of the portfolio; and what might be called, the quality of the diversification. Limiting risk to a specific issue or issuer is important, but excessive industry or issuer diversification can diminish returns unnecessarily. Portfolio quality is important, but what rating agency can be relied upon? Given the lack of consistent ratings among the public agencies and some notable faux pas, having a disciplined credit methodology with which to assess issuer and portfolio quality is even more important. U. S. Department of Labor Interpretive Bulletin 95-1 requires purchasers of annuities, for which plan participants are the beneficiaries when a defined benefit plan is terminated, to be able to demonstrate a thorough and analytical search, not solely dependent upon ratings. If the plan sponsor cannot demonstrate expertise, they are obligated to seek "the advice of a qualified independent expert." Do 401(k) participants deserve anything less? To achieve quality diversification, percentages invested need be scaled by issuer credit so that smaller exposures are held of relatively less strong issuers. In addition, stronger credits should be employed for longer duration investments to provide participants with increased downside protection.

In summary, plan sponsors have always had the obligation and are now increasingly approaching the stable value option with the same sense of fiduciary commitment to fulfilling participant needs that they have applied in years past to other options. In some cases consultants are being retained, in others, rigorous internal reviews are in process. The end result bodes well for participants with assets being shifted to more productive stable value managers whose demonstrated track records and investment styles are more likely to enhance asset returns over time.

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