Absence of Value: An Analysis of Investment Allocation Decisions by Institutional Plan Sponsors

To determine whether the investment decisions of institutional plan sponsors contribute to their asset values, this study used a dataset of 80,000 yearly observations of institutional investment product assets, accounts, and returns for 1984−2007. Results show that plan sponsors may not be acting in their stakeholders’ best interests when they make rebalancing or reallocation decisions. Investment products that receive contributions subsequently underperform products experiencing withdrawals over one, three, and five years. For investment decisions among equity, fixed-income, and balanced products, most of the underperformance can be attributed to product selection. Tests suggest that these results are not attributable to survivorship or other biases. Much like individual investors who switch mutual funds at the wrong time, institutional investors do not appear to create value from their investment decisions.Pension plans, endowments, and foundations are typically staffed with professionals who possess years of experience and advanced degrees. These institutional plan sponsors, either working on their own or with the aid of consultants, devote considerable time and resources to selecting asset classes and investment products that are expected to perform well for their beneficiaries or stakeholders. The assets in their care measure in the trillions of dollars, and this article presents a comprehensive examination of where and how their investment decisions contribute to, or detract from, asset value.We used the PSN investment manager database, which is compiled by Informa Investment Solutions from information reported by investment product managers. It contains historical data—annual summary information, quarterly and annual performance, assets and number of accounts under management—on thousands of investment products. The information in this database is used by managers for comparisons with their peers and by plan sponsors and pension consultants to identify investment manager candidates. Our analysis of asset and account flows and postflow performance covers 1984−2007 and includes these PSN categories: domestic equities (including growth, value, growth at a reasonable price, and core); international and global equities; domestic, global, and international fixed income; and domestic balanced.We conducted tests regarding added value by using both asset flows and account changes derived from data on annual assets and accounts under management for each product. Our results show that plan sponsors are not acting in their stakeholders’ best interests when they make rebalancing or reallocation decisions concerning plan assets. Portfolios of products to which they allocate money subsequently underperform products experiencing asset withdrawals or account losses over the one-, three-, and five-year periods following such reallocations. When postflow performance is decomposed into allocations between asset or style categories and product selection within the categories, product selection detracts more from performance than does asset allocation. We show that our results are robust to tests for the impact of survivorship bias, the presence of mutual fund assets, and autocorrelation in the data. Tests with account changes confirm the asset flow results. The economic significance of our findings is gauged by measuring the dollar impact of the return differences between portfolios of products that received inflows and portfolios of products that suffered asset withdrawals. This measure quantifies the value that was added or forgone by sponsors’ decisions regarding their plan assets. The value forgone is considerable, totaling $56.2 billion over 22 one-year periods following investment decisions. To avoid double counting in estimating the total longer-term results, we used various weighting schemes to implement assumptions about sponsor reallocations of a portion of assets at the end of Years 1 and 3. The resulting five-year weighted average impact, without compounding, totals −$170.2 billion for the full sample period, a significant figure for the institutional investment industry. Although only estimates, these figures most likely underestimate the economic impact because they exclude the transaction costs required to implement the allocation changes. The message from these results is clear: Plan sponsors could have saved hundreds of billions of dollars in assets had they simply stayed the course.