© Copyright 2000 Rogers Media. The following article first appeared in the July 2000 edition of BENEFITS CANADA magazine.

Ups and downs

Defined contribution plan members' reaction to market volatility speaks volumes about plan sponsors' communication strategies. Sponsors need to develop an education plan that teaches employees how to deal with market news.

By Michael Irwin

The past few months may have been the first time many defined contribution (DC) plan members saw the repercussions of market volatility on their retirement savings plans. While it's disconcerting for sponsors to be inundated with questions about recent market turmoil, it is reassuring to know that members are paying attention.

In today's DC environment, sponsors have the opportunity to form a partnership with a recordkeeper to build a comprehensive educational strategy. Uncertain financial times become a great opportunity for employers to provide members with a greater understanding of markets and retirement savings. The end result is a successful retirement savings program that enhances the employee/employer relationship.

The key to turning volatile market concerns into enhanced knowledge of investing is to give employees clear and consistent messages throughout the entire education campaign. Members need to explore and understand the real issues behind their concerns, as well as the importance of maintaining a long-term investment strategy and a balanced portfolio. From this base, sponsors and their recordkeeping partners can teach members how volatile markets can be managed and used to their advantage.

If the real issue at hand in times of market uncertainty was indeed volatility, sponsors and recordkeepers would have been flooded with calls from anxious investors last year, when markets were considerably overvalued. But volatility only seems to be a problem when it's downward. This is because questions about volatility are really about the fear of losing principle.

If employers only provide the reason for the correction, they aren't addressing the real issue or setting the stage for a better understanding of market-based investing.

Fear hides a bigger issue than the specific market decline. Every market downturn is triggered by a real economic event, such as a tightening of monetary policy, a change in investor sentiment or even a few ill-advised words from a key central banker.

Members need to understand that corrections are inevitable and the event that starts a market slide will be different almost every time. The key to enlightening employees and assuaging their fears is to focus on the bigger picture and design an education strategy that will make them comfortable with volatility.

SHORT-TERM THINKING

There's an easy answer for employees who are concerned about the drop in their retirement savings account--move into guaranteed products. It's a simple, short-term solution that makes everybody happy, at least for a while. But the evidence shows that this is a dangerous long-term move.

Statistics Canada conducted a study to determine the probability of individuals outliving their retirement savings, given a retirement age of 65 and a withdrawal rate of 7.5%. Results clearly show that avoiding volatility ultimately leads to the very problem plan sponsors try to avoid--a permanent loss of capital (see "Life-long savings," right).

In addition to a retirement withdrawal rate, the other key ingredient to a successful retirement plan is to grow the asset pool as much as possible. This can be accomplished when employees understand and address volatile times in financial markets.

Most members need equities to bolster their retirement savings plans. Sponsors who allow employees to ignore equity markets seriously limit their ability to retire comfortably. A viable alternative is to help members understand how risk and return work together.

Once sponsors recognize the need to address market volatility, they can define employees' needs and develop an appropriate strategy. A short-term plan addresses concerns and prevents any damage from reactionary investment decisions. A long-term plan builds an education strategy, designed around an understanding of how risk and return work together.

The most important short-term message to deliver to members is that market downturns have happened before. Moving money into safer investments can not only result in a long-term disaster, but it's often a poor short-term decision as well.

Eight serious crises in the U.S. since the Second World War have sent stock markets plummeting down from their highs. Each crisis was followed by a more stable performance over the next few years (see "Recovery rate," above). Once markets start to fall, members should be aware that waiting out the crisis can have significant financial rewards.

Encouraging members not to panic is only a first step in preventing volatility from damaging a retirement savings plan. Creating long-term comfort with volatility is achieved by thinking long-term, diversifying assets and dollar cost averaging. With these tools, em-ployees can focus on appropriate objectives and have the opportunity to build some confidence as markets inevitably improve.

Some sponsors worry about their message becoming stale. Keeping key elements fresh can be a challenge, but they are essential components of any effective education strategy. By adding too many other points to the story without bringing everything back to these key elements, sponsors run the risk of confusing employees.

Once the message is clear, it's important to focus on the most effective method of delivering it and staying committed. Employee meetings are the cornerstone of most education plans. However, they are costly in terms of time and resources, not to mention lost productivity. To be effective, messages must be repeated. Regular communication is important because it reinforces the key themes of asset allocation, diversification and dollar cost averaging.

People learn in different ways, but all members will have the same opportunity to absorb the key elements of successful retirement planning if a consistent message is delivered in various media and repeated throughout the year.

Michael Irwin is the manager of the employee education and communication team for group pension sales and marketing at Clarica Life Insurance Company in Waterloo, Ont.

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Life-long savings

The probability of outliving retirement savings is greatly impacted by equity allocation.

Assuming retirement at age 65 and a 7.5% withdrawal rate

Source: Statistics Canada, 1996

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Recovery rate

The performance of the Dow Jones Industrial Average illustrates significant market downturns and recoveries.

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