Investment Specialist Justin Goldstein discusses the evolution of stable value from a conservative Qualified Default Investment Alternative (QDIA) option to its incorporation into target date funds and other managed solutions to its critical role in a retirement income strategy.

  • In the current environment, despite the sharp rise in interest rates and depressed levels of market-to-book ratios, the wrap market is functioning very well.
  • Leveraging collective investment trust (CIT) and separate account structures for stable value affords greater transparency, asset ownership, flexibility and more favorable withdrawal policies.
  • As we think about retirement income, incorporating stable value can offer participants full liquidity with no penalty, diversification across multiple insurers and transparency into assets, rates and fee structures.

What is the history of stable value and how has it evolved?

Stable value is a conservative fixed income investment strategy designed specifically for retirement savings plans. Stable value funds have been around for more than 40 years and have played a critical role in the core investment menu of these plans, serving as the conservative, low-risk investment option. These funds are designed to offer capital preservation, liquidity and a yield that typically exceeds money market funds by investing in a portfolio of short- to intermediate-term bonds and, therefore, a greater opportunity set. This portfolio is then paired with wrap contracts, allowing the stable value fund to preserve principal and smooth out returns over time. The wrap contracts are structured as “fully benefit-responsive,” permitting participants to withdraw their accrued book value balance, including accumulated interest, at its stabilized value regardless of the underlying portfolio’s market value.

Stable value funds got their start as bundled insurance products, typically backed by the general account. They evolved into laddered guaranteed investment contracts (GICs) and, with the introduction of synthetic wrap contracts in the 1990s, collective funds and separate accounts, which moved the ownership of the assets away from the insurance companies to the funds and plans. Today, most plan sponsors favor a CIT vehicle and, for plans with greater than $100 million, a separate account structure. These modern structures afford greater transparency, asset ownership, flexibility and more favorable withdrawal policies.

In addition to product evolution, its usage has also evolved from serving as a plan’s QDIA, to serving as a core menu option, to now being incorporated within professionally managed solutions, including target date funds, managed account programs, risk-based portfolios and other markets such as 529 savings plans.

What are your thoughts on the state of the industry?

Prior to the Pension Protection Act of 2006, stable value products were often the most popular QDIA among plan sponsors, given the relatively low risk, capital preservation features and limited regulatory protections for plan sponsors. As “safe harbor” protections improved, plan sponsors shifted their QDIAs from capital preservation vehicles to solutions that balance capital appreciation with preservation, giving rise to the popularity of target date funds. Over time, stable value has remained a popular capital preservation option within plan investment line-ups and is used by investors of all ages across defined contribution (DC) plans, including 401(k), 457 and 403(b) plans, and has become a significant part of the growing education savings market (e.g., 529 plans). Stable value assets represent $882 billion of total DC plan assets as of 12/31/23 according to the Stable Value Investment Association.

Despite the sharp rise in interest rates and depressed levels of market-to-book ratios, the wrap market is functioning very well. We measure this by an abundant capacity, growing number of issuers, investment guideline flexibility and stable pricing. This is in sharp contrast to the Global Financial Crisis (GFC) when many financial institutions exited the market, resulting in supply disruption and overall capacity constraints. Post-GFC, insurance companies re-emerged as the dominant force and continue in that role today. We have been focused on expanding investment guidelines in areas where we believe we can add value for our clients, such as securitized credit.

Stable value posted positive cash flows in 2022, when it was one of the few asset classes to deliver positive returns. Since then, we have seen a reversal with negative cash flows in 2023 and 2024 year-to-date. As we look more closely at the data, we’re seeing an uptick in distributions attributable to older participants drawing down on their savings as well as investors rolling over to IRAs. We can point to two themes that are largely responsible for the uptick in withdrawals:

1) Yield curve inversion

Book value returns are the product of smoothing out the fixed income returns through the crediting rate and only reset quarterly. Therefore, they are not as responsive as short-term rates. Historically, stable value has delivered returns over a market cycle of 100–200 bps over 3-month Treasury bills. That premium will narrow when front-end rates are rising and widen when they are falling. The question remains how soon, how fast and how far the Fed will cut rates. Stable value and money market yields currently remain inverted, but that gap should materially narrow when the Fed eventually cuts rates.

2) Aging demographics, fewer participants accessing core menu

We look at participant demographic data to better understand who is investing in stable value, which helps inform how we manage these funds. We recognize that it’s typically an older, risk-averse individual – someone near or at retirement – who tends to invest in stable value. On average, 75% or more of the participants are over age 50. With higher usage of target date funds, there is a greater probability that those participants will never step foot in the core menu. We believe the timing of Fed rate cuts is debatable, but policy rates have likely peaked. This could bring relief to yield curve inversion, but it doesn’t help the more structural issue of demographics, which will require managers in this space to evolve and innovate.

We would be remiss not to point out that with yields at current levels, this presents one of the most attractive funding environments in recent history to launch a stable value product. The crediting rate on a new stable value fund would be equal to current yields of 5%–6%, which is pretty remarkable when compared with mature stable value products, which are still digesting rate hikes and, thus, crediting closer to 3%–3.5%.

What is your approach to stable value investing?

At the core of any stable value option is the fixed income portfolio, which will ultimately drive the success of stable value funds. We believe one of the most important decisions when it comes to design is selecting the right benchmark and creating sensible guidelines around it. To do this, we carefully weigh plan and participant data, such as demographics and historical cash flows. Our fixed income portfolios are managed exclusively by J.P. Morgan Asset Management, designed uniquely for stable value investors, and are broadly diversified across a range of sectors, while following our global fixed income platform’s time-tested, proven investment process.

Our team has been managing stable value assets for more than 30 years. We believe that bond portfolios managed by a globally integrated fixed income team, within a disciplined risk-controlled framework, can help deliver strong risk-adjusted returns. Our investment approach seeks to add value by:

  • Combining time-tested bottom-up, research-driven security selection with disciplined top-down macro positioning
  • Drawing upon the broad expertise of our well-resourced, globally integrated fixed income platform to pursue a wider opportunity set
  • Using internally generated Fundamental Quantitative and Technical (FQT) research inputs
  • Allocating risk using a rigorous and methodical portfolio construction process
  • Investing across fixed income sectors, seeking a diversified source of income and stability over the market cycle
  • Making sector allocation decisions informed by the insights of our sector specialists and the lead portfolio managers participating in robust, regular discussions regarding the macroeconomic environment
  • Actively managing wrap contracts to ensure we deliver optimal book value coverage with competitive terms and pricing, open capacity and flexibility in any market environment

What’s next for stable value?

The DC industry has evolved over time as evidenced by the advent of target date investing, auto-enrollment and auto-escalate features, self-directed brokerage and managed accounts, just to name a few.

We believe retirement income presents a meaningful opportunity. As we think about retirement income, stable value is a natural fit given its use of beneficial financial engineering to dampen volatility, helping manage sequence of return risk and creating an overall smoother journey for participants. This can be particularly valuable for those nearing or in retirement and can serve as a valuable asset class within TDFs, aiming to deliver sustainable retirement income. To that point, we see the potential to unlock even more value from synthetic GICs by using these wrap contracts as the mechanism that delivers lifetime income. The synthetic GIC is the most prevalent form of wrap contract and is typically a group annuity contract collateralized by a portfolio of fixed income securities. Unlike more opaque insurance products, synthetic GICs offer greater transparency and other beneficial features. 

As illustrated in the following chart, the majority of participants that use stable value today are at or near retirement, and that familiarity is exactly why it makes sense to incorporate the asset class into the next generation of decumulation/retirement income solutions.

Annuities are coming off a record sales year, so presumably participants are taking their 401(k) assets, rolling them into an IRA and then purchasing an annuity. However, DC plans may be cautious to adopt. Why the hesitation? The SECURE Act has paved the way, but plan sponsors still need time to do their due diligence. As we think about retirement income, incorporating stable value can offer participants and retirees:

  • Full liquidity with no penalty
  • Diversification across multiple insurers
  • Transparency into assets, rates and fee structures

We believe a retirement income product with these features would result in a more fiduciary-friendly solution that could help pave the way for higher plan sponsor adoption and greater participant usage.