The Do’s and Don’ts of your 401(k) fund lineup.


Have stated goals.
Your internal investment committee should have a conversation about the overall goals of the menu. Talk to the group about what funds make up the lineup and how many funds are offered. Once your goals are established, they should be documented in meeting minutes or the Investment Policy Statement. Documentation serves as a great way to keep existing Committee members on the same page and help bring new members up to speed.

Offer a full suite of “easy” options.
Most participants are looking to defer the investment diversification decision. Plan sponsors should make it easy for participants to have a well-diversified portfolio. Sponsors should understand the difference between risk based and target date funds and select the one that’s most appropriate for participants.

Meet the needs of the two types of investors.
Not all participants want an “easy” option. Some actually want to create their own portfolio. Develop a standalone menu of funds, which allows you to give participants the opportunity to develop a properly diversified portfolio on their own. However less can actually be more. Giving participants a choice does not mean that they should be overwhelmed with a large amount of options. Plan sponsors should look to keep the menu concise by not offering multiple funds in the same asset class.

Decide if you want to offer index or non-index funds.
Have a discussion with your advisor on the differences between the two and decide which type of funds are appropriate for your participants. Low cost, broadly diversified index funds make a lot of sense in a retirement plan. Rounding out the menu with a few non-index funds may also be appropriate if you have more sophisticated participants looking to create their own portfolio. It is not always necessary to offer non-index funds, but if you do so, make sure it is in the best interest of your participants.

Use low cost investments.
Costs eat away at returns. Over longer periods of time, funds that have lower cost structures can have better performance. This is because it’s hard to cover additional costs year after year by consistently having superior performance.


Make decisions off the cuff.
Remember it’s all about the process.  You should know the goals of the investment lineup and your Investment Policy Statement should list minimum investment criteria.  That criteria should then be followed in your decision making process.  It’s much easier to defend decisions when the Committee follows an outlined process.

Have overlap.
Remember that too many options can be confusing for participants and actually cause them to make poor decisions or no decision at all.  It’s appropriate to offer participants exposure to different asset classes but it might not make sense to offer multiple funds in the same category.  For instance, does it make sense to offer 3 global funds?  Each may have a different mix between stocks and bonds and a different mix between domestic and foreign equities but the average participant likely doesn’t know these differences and will not be able to determine which makes the most sense for their situation.  You are better off taking on the burden of these decisions, rather than leaving it up to participants.

Forget you are designing the menu for the average participant.
While the members of the Committee might be sophisticated investors, it doesn’t mean that all participants are.  When designing the menu, make sure that decisions are made for the group collectively, not just the Committee members.

Make too many or too few changes.
Just because the Committee made great decisions at the start, doesn’t mean those decisions are still appropriate today.  Be sure to review your fund lineup regularly.  It doesn’t make sense to make changes for the sake of making changes.  Participants can lose confidence in the Committee and the retirement plan if changes are being made consistently without explanation or perceived benefit.  However, if you haven’t made any adjustments since you started the plan, it may be time to revisit your goals and lineup.

Use high cost share classes.
Some fund families offer multiple share classes based on the amount invested in each fund. A good example of this is Vanguard who offers an institutional share class that carries a lower expense ratio once you have $5 million in certain funds. Make sure you are using the lowest costing share class that the plan qualifies for.  Don’t assume your provider is automatically doing this for you.