Five NAPA leaders discuss how to help plans and participants navigate the challenges of inflation

Originally published in the Summer 2022 issue of NAPA Net, the official magazine of the National Association of Plan Advisors.

From market volatility to budgets and deferrals, inflation can significantly impact retirement savings for both plan sponsors and participants. Judy Ward discussed inflation’s impact with five NAPA leaders, including Keith Gredys, Kidder Advisers Chairman and CEO, who is also Vice President of NAPA’s Leadership Council.

“The thing I lose sleep over is that some people are struggling to meet their current budget needs, and if those costs keep increasing, these people will then feel bound to stop putting away any money for their future,” says current National Association of Plan Advisors President Corby Dall, a Sandy, Utah-based advisor at OneDigital Retirement + Wealth. “My concern is that the longer high inflation goes on, and the harder it is for these people to make ends meet, they—if they don’t quit contributing altogether—will reduce their contribution.”

The possibility of deferral decreases is just one of the potential implications for retirement plans and participants of spiking inflation, especially since it comes amid rising interest rates and market volatility. “We’re trying to be a constant source of information and resources for participants. I think we have a significant obligation to help people through this, and we need to lead with empathy,” says NAPA President-Elect Renee Scherzer, a principal of 401K Resources in Scottsdale, Arizona. “Their 401(k) tends to be people’s first—and for many people, only—investment. We need to make sure that we’re providing actionable and meaningful information, in bite-size pieces, so that we can really reach people.”

Talking With Sponsors

The potential for participants dealing with higher living expenses to lower or suspend their deferral is also on the mind of Alicia Malcolm, an at-large member of NAPA’s Leadership Council and senior vice president-wealth management at D’Aiutolo Malcolm & Associates Investment Consulting Group, a UBS Financial Services Inc. affiliate in Rochester, New York. “I think that’s the biggest concern, more than whether participants will change their investment allocation. Our dollar is not going as far as it was a year ago,” she says. “We’ve come a long way to get people to save 6%, 7%, 8%, 9%, or 10% a year for their retirement. Now, some people may feel like they need to reduce their contribution.”

It’s too early to get a firm sense of how rising inflation will impact deferral rates. “The big question mark is whether the degree of inflation we’re experiencing now is going to be sustained over a longer period of time,” says NAPA Immediate Past President Alex Assaley, managing principal of AFS 401(k) Retirement Services in Bethesda, Maryland. “If we see inflation levels that seen historically—say, 4%, 5%, or 6%— we may start to see some participants reduce their saving, because of their tightening monthly cash flow.”

Sustained high inflation also would mean that people need to save more, to achieve the standard of living they want for their retirement. “I’m not concerned yet that it will have a long-lasting impact, that people saving for retirement will need to have a significantly larger amount of money saved,” Assaley says. Most retirement planning tools utilize a projected annual inflation rate in the 3% to 3½% range, he says. “For the past 10 years, the software has overestimated inflation,” he says. “Right now, most five-to 10-year inflation forecasts I’ve seen are still about 3%.”

Will some pre-retirees end up delaying their retirement because of rising living expenses and the uncertainties of market volatility? “I think it’s a question that will have to be analyzed on a case-by-case basis,” Assaley says. “Somebody retiring today is going to experience a higher degree of monthly expenses–at least for this year, and maybe next year–than a person who retired two or three years ago. Someone who needed $5,000 a month before may need $5,500 now, or maybe even $6,000. It’s a question of, is that going to be a sustained expense for that person, or will it be a shorter-term blip, for just this year? I’m still in the camp of, if we start to get more of the supply-chain issues under control, inflation will moderate sooner rather than later.”

Malcolm isn’t worried yet about the current situation delaying retirement for a lot of people who intend to do it soon. “We’re all still relatively new into it, watching the markets and the news,” she says. “But if this keeps up another year or two, then I think that people are going to reevaluate: ‘Can I retire when I planned to retire?’” When she speaks to worried participants nearing retirement, she says, “I talk to them about, ‘Yes, this is happening, and it’s scary. But we don’t know yet how long this is going to last.’ For most people, a year or two of this inflation shouldn’t ruin their retirement plans and their ability to live well in retirement.” However, she adds that some participants retiring now may want to work part time for the next year or two, until inflation recedes.

Menus ‘Driven’?

In the meantime, market volatility and rising interest rates likely will impact how some investments on a plan’s menu fare. “The expectations for returns during this time should be subdued,” says NAPA Vice President Keith Gredys, chairman and CEO of Clive, Iowa-based Kidder Advisers, Inc. “And in talking with investment committee members, we tell them that the decisions a committee makes on what is in the bond lineup are as critical, if not more critical, than the decisions the committee makes about the equities lineup now.” That’s because many bond managers have never been in an environment like this before, with multiple interest rate increases recently and more likely in the months ahead, he explains. “When interest rates go down, everybody is a winner,” he says. “When interest rates are going up, we’ll find out who is a good bond manager.”

For the core menu, Dall isn’t in favor of making additions in reaction to short-term developments like the recent inflation. To add an option such as a gold fund that’s meant to hedge against inflation carries risks for participants who don’t fully understand these investments, he says. “I would hasten to open the investment menu up to letting people react to something they heard on the radio,” he says. “Being a shepherd or steward to a plan, I don’t want to allow participants to have access to things that might be a short-term fix for a long-term problem.”

Dall and his OneDigital team continue to have quarterly meetings with all their clients. “We’re teaching the committees the same things that we teach participants: Don’t overreact,” he says of recent developments. “We tell committees, there are places on the investment menu for participants to ‘duck into’ if they are fair-weather investors. But the reality is that most participants are likely already in a target date fund or managed account, and that’s great for them, because those managers are already thinking about how to deal with inflation.”

Scherzer started working with her plan committees a couple of years ago to look more closely at how their plan’s investments handle inflation risk, which she says has been “the silent threat” for awhile. “With target date funds, you need to look at whether they have wide diversification, and the philosophy of the manager on how to factor in inflation risk,” she says. “We are seeing more employees retiring and staying in their plan, and inflation risk is terrifying for many people, especially if they’re close to retirement.”

But it’s a complicated balance for near-dated target date funds, especially with market volatility. “As someone gets closer to their decumulation phase, when we’re in an inflationary environment, relying on lower-yield assets like fixed income in a portfolio can really impact someone’s purchasing power in retirement,” Scherzer continues. On the other hand, relying heavily on equities in hopes of managing inflation risk comes at the expense of increasing an investor’s market risk. “We’re seeing that there is no perfect answer right now,” she says.

Talking with Participants

The NAPA leaders talked about how they’re dealing with three big current participant conversation topics:

FACING BUDGET CHALLENGES: “We’re talking a lot about budgeting in the sense of, ‘Where are your dollars going?’” Malcolm says. “It seems like it would be an easy question, but I think one of the hardest questions I ask people is: ‘Where do you spend your money?’ A lot of times, people don’t track how they spend their money. So I suggest that we put together a plan and look at, where are their dollars going, and are there areas where they can cut back? I always talk about the example of, if you stop every day to get coffee on your way to work, maybe now you can stop once a week.”

REDUCING THEIR DEFERRAL: Assaley is asked how he’d respond to participants feeling a budget squeeze and thinking about stopping their deferral. “I’d encourage them to try to cut back their contribution minimally, and not cut back altogether,” he responds. “If they’re saving 6% now, if they cut back to 4% or 5%, it may be enough to meet their needs for paying their bills with rising inflation.”

How would Dall talk to a participant facing higher living expenses who feels that he or she needs to cut back on contributing? “That is the $64,000 question,” he answers. “I think the best way to couch this is to create a picture of the future: Help them see, ‘If you’re struggling now, think how hard you’ll struggle in the future if you stop saving.’ I’d say, ‘Before you chip away all your contributions, make sure that you exhaust your other resources.’”

“I’d help that person understand that they likely have some expense ‘frivolities’ that they could forego,” Dall continues. “But I worry that people will still go out and buy a boat or take a vacation, then cut back on their contributions, in lieu of cutting money out of their budget.” Complicating the issue, he says that after two years of the pandemic, more people have resumed spending money on recreational pursuits. “They feel like they’re owed, like they’ve been pent up for two years,” he says. “They say, ‘I’m going to the Grand Canyon anyway.’”

WORRYING ABOUT MARKET VOLATILITY: Most of the questions Scherzer and her team have gotten from participants about inflationary risks relate to investments. “People are asking, ‘If I keep doing what I’ve been doing, am I going to have the income I’ve been planning on for my retirement?’ she says. “We see some of those employees looking to invest more heavily in stocks, in hopes of withstanding inflation better. So we’re having a lot of talks about trading one risk (inflation risk) for another (market risk).”

There’s time to recover from the market downturn, even for those nearing retirement, Malcolm reassures worried participants. “What we’re constantly reminding participants about is, ‘Your retirement plan is meant to be a long-term savings strategy. Even if you’re close to retirement, typically you’re not going to liquidate your account the minute you leave your job, and spend all the money,’” she says.

Most participants have not experienced a high-inflation environment, except those at or near retirement Gredys says. “This is new territory for them. So we have to give them a little history lesson, and explain that everything goes in cycles,” he says. “A lot of what’s happening now is sort of like the 1970s, in that the average inflation rate then was 7.1%, and the average return in the stock market was 5.9%. A lot of different things were happening: Gas prices were going up, there was a war, there was a period of stagflation. The point we’re trying to make with participants is that we’ve been here before. The market is very resilient, and good investment managers tend to ‘figure it out’ and make adjustments.”

“We tell people, ‘Stay in touch with your investment timeframe, and stay in touch with your risk tolerance. But do not expect to see the double-digit equities returns that you’ve seen the past couple of years, and don’t try to time the bottom of the market,’” Gredys continues. “We tell them, ‘Sometimes you have to just strap yourself in, and ride the rollercoaster.’”

###

The information given herein is taken from sources that IFP Advisors, LLC, dba Independent Financial Partners (IFP), IFP Securities LLC, dba Independent Financial Partners (IFP), and its advisors believe to be reliable, but it is not guaranteed by us as to accuracy or completeness. This is for informational purposes only and in no event should be construed as an offer to sell or solicitation of an offer to buy any securities or products. Please consult your tax and/or legal advisor before implementing any tax and/or legal related strategies mentioned in this publication as IFP does not provide tax and/or legal advice. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation, or needs of individual investors. This report may not be reproduced, distributed, or published by any person for any purpose without IFP’s express prior written consent.

Securities offered through IFP Securities, LLC, dba Independent Financial Partners (IFP), member FINRA/SIPC. Investment advice offered through IFP Advisors, LLC, dba Independent Financial Partners (IFP), a Registered Investment Adviser. IFP and Kidder Advisers, Inc. are not affiliated.