The alpha advantage: Building retirement resilience

Consistency beats intensity. This quiet, inconvenient truth applies to all of us who try to get fit, prepare for an exam, or develop new habits. It is especially apt when investing for retirement. Habitual saving, steady, attractive returns, and time are three critical ingredients that allow compounding to work its magic. The ingredient defined contribution (DC) plan sponsors control most, through the investment lineup they offer plan participants, is returns. Improving either the stability or absolute level of returns can have powerful effects, and alpha generated through active management offers the potential to help with both.

Recognizing that many DC plans offer both active and passive investments and that each may have a role to play, this paper offers a framework for harmonizing active and passive strategies to improve long-term retirement outcomes while upholding the principle of value for money. In it, we examine the potential impact of alpha over time, the growing need for alpha and the importance of market inefficiency when pursuing it, and steps plan sponsors can take to help participants maximize the alpha advantage.

Alpha: What difference can it make?

The DC plan landscape offers a broad mix of active and passive strategies and the returns within each category can vary widely. To provide some sense of what a plausible alpha assumption for active strategies might be, we focused on the performance of target-date funds, a common choice among plan participants given their ease of use (age-appropriate asset allocation, automatic rebalancing, etc.). Specifically, we compared the performance of funds with a 2035 target date managed by the largest active target-date managers and the largest passive target-date managers. We found that on a net-of-fees basis, the active target-date funds outperformed their passive peers on average over the past 10 years, as shown in…

To read more, please download the full paper below.