Less-Knowledgeable Investors Make Riskier Choices When Faced With More Retirement Savings Options

PITTSBURGH-As the number of mutual funds offered by employers grows, less-knowledgeable investors are making increasingly riskier decisions in the allocations of their 401 (k) retirement savings, according to "Saving for Retirement: The Effects of Fund Assortment Size and Investor Knowledge on Asset Allocation Strategies," which recently appeared in the "Journal of Consumer Affairs". The research was conducted by the Joseph M. Katz Graduate School of Business, University of Pittsburgh; Rutgers School of Business-Camden; and the McCombs School of Business, University of Texas at Austin.

The results of this study indicate that less-knowledgeable investors change their asset allocation strategies when more investment options are offered (three vs. 21). These less-knowledgeable investors allocated a significantly higher proportion of dollars to stocks when choosing from the larger assortment. The results are based upon a decision simulation conducted among 211 adults whose task was to invest in a 401 (k) retirement plan.

"We would suggest that more options are better, because more-knowledgeable investors are able to handle larger assortments and prefer them," says Pitt researcher J. Jeffrey Inman, Albert Wesley Frey Professor of Marketing and professor of business administration. "On the other hand, our results suggest that investment counseling is key for employees who are less knowledgeable about investing."

In the study, the proportion of dollars allocated to stocks (vs. bonds or cash) more than doubled for less-knowledgeable investors when the number of options increased, whereas the number of options had no significant impact on the allocation strategies for more-knowledgeable investors. Inman notes that while it is not necessarily undesirable for less-knowledgeable investors to allocate more of their dollars to stocks, it is disconcerting that merely changing the total number of funds offered in the plan has such a large impact on the risk profile for their investment portfolios.

Inman suggests that employers offer a "Test your Investing IQ" quiz for their employees to assess which are at the greatest risk.

"Another course of action is for employers to advise all employees to set target allocations for the three asset classes (stocks, bonds, and money market funds) before they begin to consider the specific investment alternatives."

For the full article, contact Amanda Leff at 412-624-4238 or aleff@pitt.edu.

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11/19/08/tmw