Remarks Of Richard Y. Roberts Commissioner* U.S. Securities and Exchange Commission Washington, D.C. "Role for SEC to Promote Greater Participant Education in Directing Pension Plan Investments" National Employee Benefits Institute 1995 Spring Conference "New Congress: New Issues, New Opportunities" Washington, D.C. May 4, 1995 ____________________ */ The views expressed herein are those of Commissioner Roberts and do not necessarily represent those of the Commission, other Commissioners or the staff. I. Introduction I appreciate the opportunity to speak before NEBI's Spring Conference on what role federal policy should play in promoting greater participant education in directing pension plan investments. While this is a broad topic, my remarks generally will be limited to the role that I believe the Securities and Exchange Commission ("Commission") should play in this area. As some members of this audience may be aware, this is not the first time that I have had the opportunity to address this topic. This February, I appeared before a conference presented by Pensions & Investments in conjunction with the International Business Forum. At that conference, I expressed my views regarding the need for employees in participant-directed defined contribution plans to receive adequate information about their investment choices, and the desire of plan sponsors to provide that information while avoiding liability and excessive costs. I offered then what I believed was a partial solution to both employee and plan sponsor concerns: namely, the provision of a simplified prospectus to employees in participant-directed defined contribution plans regarding each underlying mutual fund or other securities-related investment. Today, I intend to revisit and expand upon those remarks, and then touch upon a few other issues that I believe will be of interest to this audience. II. Defined Contribution Plans Defined contribution plans have grown steadily, in terms of numbers, participation rates, and assets, for some time now. Figures reported in several recent studies -- by the Employee Benefit Research Institute, the Investment Company Institute, and others -- demonstrate such plans' explosive growth. For example, the total number of private defined contribution plans nearly tripled between 1975 and 1990, from 208,000 to 599,000. Among those employees able to participate in a 401(k) plan, the most popular type of defined contribution plan, 67% of employees did so in 1993, compared with 39% in 1983. Assets of private sector defined contribution plans reached $1 trillion in 1993, up from $575 billion in 1988. If present trends continue, and I expect that they will, defined contribution plans will be the most common type of pension plan in the not-too-distant future. My focus today is on defined contribution plans but not just because of their explosive growth in comparison to other types of retirement plans. Unlike a defined benefit plan, where the employer makes the investment decisions and bears the risk of loss, a defined contribution plan typically places on the employee the responsibility of investing in the plan, how much to invest, and the risk of investment choice. Further, the retirement income of even those participants who fully invest in a defined contribution plan may fall short of the inflation rate if the vehicles invested in are too conservative. I have always adhered to the view that an employee who decides how to invest his or her assets in a defined contribution plan is as entitled to adequate information about investment options as is any other investor. However, I understand that ERISA's disclosure rules, in the past, only required disclosure about the plan itself. Thus, plan participants were not necessarily receiving the information they needed to make an informed choice about their retirement assets, which is possibly the most important decision about their finances they will ever make. In 1992, the Commission's Division of Investment Management's "Protecting Investors" Study (which I will refer to as the "Staff Study") recommended legislation to remove the current exemption in the Securities Act and in the Investment Company Act for interests in collective trust funds and separate accounts in which participant-directed defined contribution plans invest. The Staff Study also recommended legislation amending the federal securities laws to require the delivery of prospectuses for the underlying investment vehicles to plan participants who direct their investments. I recognize that the Staff Study's recommendations remain controversial in many quarters, in part because they represent only a partial solution, since their implementation still would not result in federal securities disclosure requirements being applicable to all participant-directed defined contribution plans. Further, I acknowledge that the Department of Labor's ("Labor") Section 404(c) regulations serve as a partial solution to the lack of investment information for some plan participants. Labor's 404(c) regulations reduce the exposure of a plan's sponsor to liability for losses in participant accounts and, at the same time, provide employees more information about, and more control over, their investment choices. While the new rules are voluntary, a plan that does not conform to the rules cannot claim immunity from lawsuits by employees who are disappointed with their investment return. Among other things, the 404(c) regulations require that a plan offer at least three diversified investment vehicles, each of which has different risk and return characteristics. The regulations also require the sponsor to assure that plan participants are given, or can obtain, the information necessary to make an informed investment decision. At a minimum, sponsors must give employees information about each investment option, including its objectives, risk and return characteristics, and type of portfolio assets, as well as information about transfer procedures, the expenses and performance of each investment option, and a prospectus for any vehicle which is registered under the Securities Act. Despite Labor's initiative, I understand that many sponsors avoid telling participants where they should allocate their funds for fear that participants could later sue if their investments sour. That is an unfortunate circumstance, since this is the area where plan participants probably need the most help. I know that some sponsors are going beyond the relatively modest requirements of the 404(c) rules and are attempting to comply more closely with the spirit of the regulations by providing basic retirement planning information in the form of seminars, individual consultations, and regular publications. As one example of this trend towards additional education, I noticed in a recent issue of the Defined Contribution News that the National Blue Cross & Blue Shield Association for one is beginning to explore additional investment education programs for the participants in its $325 million Tax-Deferred Savings Program. It appears that Blue Cross currently offers enrollment kits and limited written materials through a bundled service provider, but would now like a more in-depth investment education program that includes customized video and audio cassettes, workbooks and other written materials, software programs, and group meetings. I commend those plan sponsors who have taken an aggressive approach to investor education and urge others to follow suit. I also note that investment education may be an effective marketing device for many plan sponsors. Sponsors should remember that Labor's rules require them to "assist" their employees in making an "informed decision." While trends in 401(k) investor participation are moving in the right direction, as I noted above, approximately one-third of employees who qualify for 401(k) plans still do not contribute, and another study found that 60% of those who do contribute, select low-risk, low-yield vehicles such as money market funds or guaranteed investment contracts. Thus, for many participants, an informed decision may need to start with the basics of retirement planning and an understanding of risk versus reward, even though the 404(c) rules do not explicitly require this. I am encouraged by Labor's 404(c) rules; they appear to represent a significant step in closing the information gap which currently exists in the defined contribution area. The rules are only voluntary, however, and ERISA does not apply to every pension plan, such as governmental plans. Because this information gap has yet to be completely filled in, the Commission, Labor, and industry must consider additional initiatives to ensure that every defined contribution plan participant receives sufficient disclosure about his or her investment options. III. Simplified Prospectus Even if you believe, as I do, that the disclosure requirements found in the federal securities laws are superior from a quality standpoint to the information required by the 404(c) rules, this by itself does not end the analysis as to what information would best serve defined contribution plan participants or what form that information should take or who should be required to deliver the information. In fact, the disclosure rules mandated by the federal securities laws and which protect pension plan participants are by no means perfect. There is some argument, for example, as to whether current federal securities law disclosure rules require the delivery of a mutual fund prospectus to only the sponsor or administrator, or also to the plan participant. This situation has resulted in inconsistent information delivery practices in the field. Although I have not analyzed the issue thoroughly, I am preliminarily of the view that the Commission does have the authority to require by rule or interpretation the delivery of mutual fund prospectuses to plan participants. Of course, even if the Commission determined that it has such authority, there may be policy reasons mitigating against adopting such a rule or interpretation. Further, the views of Labor should be carefully considered during this process, and it would be my preference that any Commission effort in this area be coordinated with Labor. Whether or not the Commission pursues such a rule or interpretation, I am not convinced that the best mechanism for delivering information to plan participants is the provision of complete funding-vehicle prospectuses regarding each available plan investment. It is my impression that few plan participants would read these prospectuses or understand them; a small minority may even be more confused about their options than they are at present. Furthermore, while it is possible for the Commission to work through Form N-1A item-by-item and make modest revisions for investment vehicles underlying defined contribution plans -- so as to make the disclosure more understandable and relevant to defined contribution plan participants -- I am not sure that this would be enough to ease my concerns. The 1992 Staff Study recognized such problems to some extent in the context of direct-marketed mutual funds. The Staff Study recommended that the Commission adopt a new rule that would permit investors to buy mutual fund shares directly from advertisements ("off-the-page"), albeit for reasons predominately UNrelated to investor confusion. These off-the-page ads would have been required to contain standardized and essential information about the fund and, for all practical purposes, would have been a substitute for a complete prospectus. But while the Commission proposed an off-the-page rule in March 1993, the proposal encountered substantial opposition, especially from state securities regulators, and no longer appears to be a Commission priority. Many investors, however, continue to view mutual fund prospectuses as too long and complicated and do not wish to read them. In concept at least, investors may be more inclined to read the essential information if presented in some simplified format before making an investment decision. I am sure that this would be the case with respect to defined contribution plan participants, who otherwise would receive complete prospectuses regarding investments with which they had little or no interest. Since the off-the-page proposal appears to be on the Commission's back burner, other means of encouraging simpler, better disclosure must be pursued. Therefore, I have become an advocate for using a simplified mutual fund prospectus in appropriate circumstances. More specifically, the use of a simplified prospectus as a mechanism for informing plan participants about possible underlying investment vehicles in a defined contribution plan makes a great deal of sense to me. In fact, I am of the view that simplified prospectuses, if designed properly, may be more responsive to the needs of defined contribution participant investors than requiring the preparation and delivery of complete prospectuses. A simplified prospectus would outline the underlying investment vehicle's investment objectives, types of portfolio securities purchased, key performance data and performance comparisons if appropriate, risk levels, and other important information in a short, concise, easy to read fashion. Of course, another possibility that is worth considering is mandating the provision of a simplified prospectus to all participants, while also requiring that participants be provided a "complete" prospectus upon request. I know that for some members of this audience what I have just described is not terribly novel. Press reports indicate that some service providers to defined contribution plans already make available shortened versions of prospectuses to participants. Moreover, at the time the 1992 Staff Study was published, several banking executives critical of the legislative recommendations contained therein, submitted as their own alternative the development of simplified disclosures for pension beneficiaries which would be distributed to such beneficiaries on a semi-annual or more frequent basis. As I stated earlier, the Commission may be able to act by rule or interpretation to effectuate the delivery of information to plan participants with respect to underlying mutual fund investments. In other cases, there would need to be voluntary industry initiative, or other regulatory or legislative action. In any event, I urge the Commission, industry, Labor and other regulators to reconsider what information should be provided to defined contribution plan participants, what form that information should take, and who should be required to deliver such information. IV. Fidelity No-Action Letter The members of this audience may be aware of the fact that early last month, the staff of the Commission's Division of Investment Management issued a no-action letter to the Fidelity Institutional Retirement Services Company ("FIRSCO") which should be of great interest to the defined benefit plan community. This no-action letter deals with the circumstance that while fund companies generally are prohibited by Securities Act Rule 482 from including applications in their advertisements, plan sponsors may desire to include enrollment and other forms related to the plan ALONG WITH material from fund companies when providing information to the sponsors' defined contribution plan participants. By way of background, FIRSCO is a substantial servicer of participant-directed 401(k) plans and apparently prepares and provides communication materials to assist plan sponsors in satisfying their obligations to supply plan participants information material to their choice of investment option. Further, FIRSCO also apparently provides statutory prospectuses to the employer/plan sponsor for each Fidelity fund available under a retirement plan, and the employer typically makes the prospectuses available to the employees. FIRSCO proposed to the staff of the Commission to supplement the information currently available to employees of plans serviced by FIRSCO with summaries of the prospectuses of the Fidelity funds that are investment options under the plan ("SPRs"). In substance, each SPR would provide summary information regarding the available Fidelity funds' investment objectives, policies and risks, expenses, historical performance, and distribution practices. An SPR would also contain directions for any employee who wishes to obtain a statutory prospectus for an available Fidelity fund before making his or her investment choice. In addition, an SPR would include instructions regarding how plan participants can enroll in their employer's plan and allocate contributions to one or more of the investment options described in the SPR. Of course, the problem was that the employers wanted to accompany the SPR with the enrollment form and other forms related to the plan which raised Rule 482 concerns. Counsel for FIRSCO pointed out that the enrollment and other forms would be sent to the plan participant by the employer and not the fund and, if completed by the plan participant, would be sent to the employer and not directly to the fund. More importantly, the SPR would provide plan participants with significant information regarding each Fidelity investment product available in their employers' plan, prior to making their investment decision, in a format that they may even read and understand. As a technical matter, the staff determined that it would not recommend enforcement action to the Commission if FIRSCO and sponsors of certain participant-directed defined contribution plans serviced by FIRSCO treat certain informational materials to be developed by FIRSCO (such as the SPR), even if accompanied by the enrollment forms, as a communication satisfying Securities Act Rule 482's requirements. As I understand the implications of the staff's position, because a participant's response would be directed to the plan sponsor and not to the seller of fund shares, FIRSCO may send summary prospectuses of investment vehicles to potential 401(k) plan participants even if the employers include enrollment forms with such materials. This staff position strikes me as an eminently reasonable and practical one, and it will be interesting to see if the staff's position has the effect of providing greater opportunities for employee education regarding their plans and plan investments. V. Status of Department of Labor/Commission Efforts Finally, I wish to update you on the status of Labor and Commission efforts regarding the investment information provided to 401(k) plan participants. As you may recall, there were discussions last year between Labor and the Commission regarding a joint research effort that would study the effectiveness of existing regulation and of industry initiatives related to participant investment education. The idea was a good one: not only because the issue was worth looking into, but because the use of a joint study framework would demonstrate that both Labor and the Commission were committed to participants having adequate information related to ensuring their retirement security and not, as some critics have suggested, to some kind of "turf war" between the two agencies. Since this agreement, the approach taken by Labor and the Commission has changed somewhat, and the two agencies have agreed to proceed with a study of the issues, which study I understand is currently being undertaken by the Employee Benefit Research Institute ("EBRI"). The two agencies' objectives, however, have not changed, and I view the new approach as a positive, practical step. It is my understanding that no preliminary findings -- either from EBRI or Labor -- have been published to date. VI. Conclusion With the increasing popularity of defined contribution plans, the industry is poised to become the predominant type of pension plan. To ensure continued success, however, eligible employees must be convinced that it is in their best interest to invest in these plans, and, then, how to make wise investment decisions. Clearly, the way to encourage intelligent investment decisions, at a minimum, includes providing investor education programs and providing investment-specific information directly into employees' hands. In this area, I would favor utilizing, if mutual funds are involved, a simplified prospectus approach -- a rare instance where less disclosure could mean better disclosure. # # # #