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How Recent Shift to Bonds Increases 401k Fiduciary Liability

October 14
16:31 2009

At what point does 404(c) no longer protect the 401k fiduciary? When does fiduciary liability increase by the choices the 401k plan sponsor offers? Can participant education counter the noose the plan provides investors to hang themselves? A recent study from Hewitt Associates suggests events may be placing plan fiduciaries in a historically precarious position.

We’ve all been taught since our cradle days one simple fact: bonds are safer than stocks. To some extent, this adage remains generally true. Indeed, nearly every financial planner will advise investors to shift towards bonds if the investor desires less risk. On a broader scale, as worry about the equity market increases, investors tend to move more assets into bonds and away from stocks. A recent article (“$138 million in 401(k) assets move to equities from bonds,” Pensions & Investments, October 13, 2009), citing the Hewitt 401(k) index, confirms this trend among participants of 401k plans.

So, how could something as harmless as bonds potentially injure investors and increase fiduciary liability? Ironically, a contemporaneous article (“Taking Cover: Where to Hide If Bonds Fall,” Wall Street Journal, October 13, 2009) answers this question. Today, interest rates remain at historically low levels. Once the economy restarts, there’s only one direction interest rates can go, and that’s up. As pointed out in an earlier story (“Never Buy a Bond Mutual Fund Thinking it’s a Bond”,, September 18, 2009), when interest rates rise, bond prices – and the net asset values of bond mutual funds holding them – tend to tumble. Diversification does not protect the investor when the entire asset class sinks.

An unaware 401k participant, scared of stocks and unimpressed with stable income returns, may have unknowingly moved to the riskiest asset class available by shifting to a bond fund. Who’s responsible for this poor decision? The participant, who failed to educate himself, (assuming the fiduciary provided the proper education in the first place)? Perhaps. Perhaps not. Maybe the blame lies with the fiduciary, who provided the rope for the noose in the first place.

About Author

Christopher Carosa, CTFA

Christopher Carosa, CTFA


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