2008 F a l l

Building Futures: A Report on the Defined Contribution Industry

Asset Allocation Invested for the long haul: improvements in asset allocation among workplace retirement savers

Invest for the long haul: improvements in asset allocation among workplace retirement savers

A Message from the President

1

Observations The unmistakable shift toward better asset allocation

2

The decline in stable value investing

6

A more reasonable investment in company stock

7

The increased use of single, diversified investment options

9

The all-time high in retirement age–appropriate equity investing

12

Action Plan Improving asset allocation among your employees

14

A Message from the President Since 1999, the Building Futures publications have illuminated trends in plan experience and employee behavior for defined contribution plan sponsors, consultants, industry groups and legislators. This year, in response to client feedback, Building Futures has a new strategy — a shift from all-encompassing reviews of participant data published once a year, to shorter and more frequent analyses focused on single topics. In this edition, Building Futures: Asset Allocation, we address one of the critical components to achieving a more financially secure retirement. We have expanded the scope of our research as well. Previous editions of Building Futures included only corporate plan data. This release covers the breadth of the Fidelity plan base —  the industry’s most comprehensive proprietary collection of defined contribution plan and participant information — with more than 18,000 plans sponsored by both corporations and tax-exempt organizations. These plans include 14.3 million participants and over $835 billion in recordkept DC assets. New data from our plan base show that many employees’ workplace savings portfolios are more diversified today than they were during the last market downturn in 2001, making them potentially better equipped to weather current market volatility. And, in another important development for asset allocation, 2007 saw the release of the Department of Labor’s much anticipated guidelines about Qualified Default Investment Alternatives (QDIAs). Combined with the PPA, these guidelines provide greater fiduciary protection for employers. We hope you’ll enjoy reading about the significant changes and trends under way in participant asset allocation. As the nation’s largest provider of workplace savings plan services, we see Building Futures not only as an overview of our industry but an indication of the future. Working together with employers, Fidelity is committed to leading the change — and by doing so, helping to solve a major portion of working America’s retirement challenge. Sincerely,

Scott B. David President, Retirement Services Exhibits and conclusions in this report are based on Fidelity plan base data as of March 31, 2008. (Plans sponsored by Fidelity Investments for the benefit of its own employees were excluded from this analysis.)

© 2008 FMR LLC. All rights reserved.

1

OBSER VATIONS

The unmistakable shift toward better asset allocation Although industry leaders and investment professionals have always understood the benefits of asset allocation and diversification, this knowledge hasn’t always translated into appropriate investing among employees. Inertia has long been a culprit, leading to chronically unbalanced portfolios and large numbers of participants invested solely in plan default investment options. But times are changing — and rapidly — as a growing number of plan sponsors use this inertia to the benefit of participants. Fueled by two recent sets of regulations, the movement toward retirement ageappropriate investing is stronger and more widespread than ever Together, the Pension Protection Act (PPA) of 2006 and the Department of Labor’s (DOL’s) followup guidance on qualified default investment alternatives (QDIAs) introduced fiduciary protection for employers who offer certain diversified investments as the plan default. These qualified default investments include lifecycle options, balanced products, and managed accounts. The combined PPA/DOL guidance reinforced decisions by many plan sponsors to make target-date lifecycle options their plan’s default. The rulings also excluded stable value and short-term (i.e., money market) options, two traditional default option mainstays, from “qualified” status (except under certain conditions). These factors are adding momentum to a growing trend: away from using the most conservative investment options as plan defaults, and toward options that offer instant, retirement age-appropriate asset allocation to new participants. Among these age-appropriate options are lifecycle funds, the blended portfolios of equity, fixed income, and short-term investments that—consistent with the principles of sound retirement investing—become more conservative over time. Exhibit 1 shows the current programming of asset mixes by years until retirement for one family of lifecycle funds, the Fidelity Freedom Funds.® Note that the blend of equity, fixed income, and short-term investments becomes more conservative over time, consistent with the principles of sound retirement investing.

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© 2008 FMR LLC. All rights reserved.

Exhibit 1: An example of target retirement year investing 100%

Percentage of portfolio

90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 45

35

Domestic equity

25 International equity

15

5

-5

Years to retirement Investment grade

High yield

-15

-25

Short-term

Target asset allocations for Fidelity Freedom Funds as of March 31, 2008. This chart illustrates the Freedom funds’ target asset allocations among domestic equity, international equity, U.S. investment-grade fixed income, high-yield bond, and short-term funds, and how these allocations may change over time. The funds are designed to become more conservative as investors approach their retirement date. The asset allocations shown are not intended as benchmarks for individual investors; rather, investors should allocate assets based on individual risk tolerance, investment time horizon, and personal financial situation.

© 2008 FMR LLC. All rights reserved.

3

Exhibit 2: Percentage of plans with lifecycle and other QDIA-eligible defaults 60% 51%

Percentage of plans

50%

50% 41%

40%

40%

33% 30%

28% 24%

20% 10%

10%

9%

8%

7%

12% 10%

14% 12%

16% 14%

32%

26%

23%

18% 17%

0% Sep 05

Dec 05

Mar 06

Jun 06

Sep 06

All QDIA-eligible defaults (including lifecycle)

  As of the end of 2005, 10% of the default options being used were lifecycle or balanced options. Now, one half of all plans’ default options are lifecycle options. In all, 76% of plan participants are now in a plan with a default option that could be considered a QDIA.*

Dec 06

Mar 07

Jun 07

Sep 07

Dec 07

Mar 08

Lifecycle default

Although stable value and short-term investments can play a role in a healthy asset mix, the movement away from them as default options — and toward more diversified default options — is a positive trend for all participants (Exhibit 2). Employees who are “defaulted into” retirement ageappropriate lifecycle options or managed accounts are far more likely to maintain a balance of equity, fixed income, and short-term investments as their needs shift from growth to income.

Optimal allocation “in the bloodstream”: The effect of target-date options The adoption of target-date investment products, such as lifecycle options, as the plan default is already fueling important improvements in participant asset allocation. As one might guess, the most profound impact is among new plan participants — those without existing plan investments. Among new participants in plans with lifecycle options as the default, a full 60% have retirement age-appropriate equity holdings.1

*This does not include limited-use money market or stable value products.  his 60% includes the newly eligible employees automatically defaulted into a retirement age-appropriate lifecycle option under T their plan’s default investment rules. Participants are assigned a specific lifecycle option, usually based on the assumption that they will retire in the year they turn age 65. Some plans assume an earlier retirement age based on the normal retirement age for their industry. Fidelity used the following methodology to determine whether participants had a retirement-age appropriate asset allocation: A retirement age of 65 was assumed for all participants. Each participant’s equity holdings were compared with those of the Fidelity Freedom Fund that most closely matched the year he or she would turn 65. If a participant’s equity holdings were within 10 percentage points above or below the applicable Freedom fund’s current equity allocation, it was deemed to be appropriate.

1

4

© 2008 FMR LLC. All rights reserved.

Also impressive is the fact that only 13% of the new participants in plans with a lifecycle default have a portfolio of 100% equities, versus 24% of participants in plans with stable value or short-term defaults — a position that may be too aggressive for even the youngest employees. For new participants defaulted into lifecycle funds, inertia is the initial catalyst for retirement age-appropriate investing. And as their balances grow, inertia may continue to keep them invested in their lifecycle fund default. Because these funds automatically rebalance over time, defaulted participants who do nothing should continue to maintain an appropriate asset allocation over

  Less than 15% of participants perform an investment exchange in a given year — and two thirds will go five years or longer between investment exchanges.

the years. For those who pay more attention to their investments, the desired behavior is that they’ll stay the path of appropriate allocation, even if they eventually select other investment options themselves.

Larger ramifications As Exhibit 3 shows, the holdings of defined contribution plan participants are much better allocated within their workplace retirement plan accounts than they were at the turn of 2000, leaving participants better prepared for the long term.2 Along with lifecycle and other blended options,3 holdings in international equities and fixed income investments are up considerably. At the same time, a smaller share is being allocated to stable value and short-term investments. While PPA regulations and the expanding role of target-date products may not be the only reasons for these positive trends, they are certainly key contributors. Exhibit 3: Defined contribution plan investment mix, 2000 and 2008* Percentage of total assets Type of Investment Option

03/31/2008

12/31/2000

Percentage of participants holding (in plans that utilize) 03/31/2008

12/31/2000

Blended (Including Lifecycle)

15.9%

7.5%

50.8%

30.1%

Domestic Equity

38.7%

50.3%

57.4%

70.2%

International Equity

10.0%

4.0%

32.6%

19.2%

Company Stock

10.5%

20.5%

55.9%

65.8%

Fixed Income Stable Value

6.3% 12.9%

2.0% 11.0%

23.2% 35.6%

14.6% 41.3%

Short-term

4.3%

4.0%

22.6%

26.1%

Annuity

0.4%

0.2%

25.2%

29.1%

*Includes all qualified plans administered by Fidelity. Holdings participants may have in other types of accounts, such as IRAs and brokerage accounts, are beyond the scope of this study.

2

Blended options include mutual funds, commingled pools, and separate accounts composed of at least two asset classes, one being an equity, and the other either a fixed income or money market. Included in the blended category are lifecycle funds balanced funds, and “strategies” (i.e., funds of funds, pools, and separate accounts) meeting the above conditions.

3

© 2008 FMR LLC. All rights reserved.

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The decline in stable value investing The increasing use of QDIA-eligible defaults has led to a sharp decrease in the use of stable value and short-term funds for default purposes. This trend has spurred an important changeover in investment ownership among employees: For the first time ever, blended options as a percentage of total plan assets

  A mere 26% of participants are now in plans with stable value or short-term defaults, down from 65% on December 31, 2005.

now nearly equals the sum of short-term and stable value assets. Current plan activity and new participant behavior indicates that blended options may someday overtake these stable, conservative investments.

The increased use of blended default options — as a means of seeking better returns with less risk — is good news for most defined contribution plan participants. Younger employees who invest too conservatively are likely to achieve inflation-adjusted returns too small to meet their retirement goals. Continual investment in a blended option, particularly a lifecycle option or managed account, makes it easy to maintain an age-appropriate blend of equity, fixed income, and short-term investments throughout an employee’s career, and even through retirement.

Exhibit 4: Trends in stable value, short-term, and blended option investing 30% Percentage of total plan assets

27% 25% 19%

20% 15%

20%

20%

19% 17%

15%

16%

17% 16%

14% 10% 5%

8%

9%

9%

9%

3/31/01

3/31/02

3/31/03

11%

11%

3/31/04

3/31/05

12%

0% 3/31/00

Stable value and short-term options

6

3/31/06

3/31/07

3/31/08

Blended options

© 2008 FMR LLC. All rights reserved.

A more reasonable investment in company stock Historically, investment and holding provisions imposed by some plans on

  Only 19% of the assets in DC plans that offer company stock remain in that investment option, down from 31% in March of 2000.

employer stock contribution plans have left many employees with a large portion of their savings in this potentially volatile investment. However, by easing the restrictions on exchanges out of company stock, the PPA cleared the path to better diversification.

Exhibit 5: Percentage of total assets invested in company stock, among plans offering that investment option

Percentage of total plan assets

35% 30%

31% 28%

26%

25%

23%

23%

22%

20%

20%

20%

3/31/06

3/31/07

19%

15% 10% 5% 0%

3/31/00

3/31/01

3/31/02

3/31/03

3/31/04

3/31/05

3/31/08

Punctuated by significant press coverage of major company failures (and the associated dangers of a retirement portfolio heavy in company stock), these events and the PPA’s exchange provisions have had the desired effect. Ownership of company stock has fallen from 66% of participants eight years ago to 56% today. The participants’ stake in company stock has decreased as well, from 40% of their DC plan assets to 28%. Despite the improvement, this level of company stock exposure is still considerably higher than the 10% of retirement assets that Fidelity considers the maximum percentage appropriate for investment in any one nondiversified investment option.

© 2008 FMR LLC. All rights reserved.

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Where does company stock fit in?   The collapse of Bear Stearns (whose stock fell to approximately $10 from $70 in about three weeks) and of Enron (wiping out 60% of that company’s 401(k) assets) provide valuable lessons on the dangers of overinvesting in company stock.4

As with other individual securities, company shares could represent a substantial growth opportunity or a solid value investment, but they can also be high risk, particularly the stock of companies that are not diversified. While diversification could offset some of this risk, company stock should continually earn its way into a participant’s portfolio, just as any other investment option should. Then again, extra diligence is advisable, given the strong correlation between a company’s performance and prospects and the financial well-being of its employees.

4

“Don’t Paint Nest Eggs in Company Colors,” The New York Times, March 30, 2008, and “U.S. Moves to Ease Harm from Enron,” The New York Times, April 4, 2002.

8

© 2008 FMR LLC. All rights reserved.

The increased use of single, diversified investment options   Of the 32% of participants holding a single investment option today (up from 26% in March of 2000), more than half of these plan participants now hold a lifecycle or other diversified option.

Historically, a single-investment portfolio has been a red flag: an indicator that an employee is investing far too conservatively or aggressively. This is no longer always the case. While the percentage of participants holding a single investment option has increased, it is important to look at which investments these participants are holding. In the past seven years, more than half of participants who have a single investment portfolio are holding a lifecycle option or other diversified option. The portion of participants holding single, nondiversified investments has shrunk by seven percentage points over the past seven years — to 16% of all participants. Exhibit 6: Percentage of participants holding a single investment option, by date

Percentage of participants

35% 30%

26%

27%

27%

28%

28%

23%

23%

22%

22%

21%

28%

30%

31%

32%

25% 20%

20%

20%

19% 16%

15% 10% 5% 0%

3/31/00

3/31/01

Blended option

© 2008 FMR LLC. All rights reserved.

3/31/02

3/31/03

3/31/04

3/31/05

3/31/06

3/31/07

3/31/08

Nonblended option

9

As Exhibit 7 indicates, the youngest and oldest participants are the most likely to hold a single investment option, although the nature of these options varies significantly. A large majority of the 20- to 34-year-old single-option investors hold a diversified investment — reflecting widespread recent growth in the availability of lifecycle options, as well as the current move toward QDIA adoption. Conversely, participants age 60 and older — those in or nearing retirement — are far more likely to hold a single, nondiversified investment. Consistent with the historical reliance on conservative default investment options, the holdings of these older investors are heavily skewed toward stable value, short-term, fixed income, and annuity options. A key point to remember when considering this trend is that while stability is certainly important for this group of investors, the growth potential of equities can be useful in planning for lifetime retirement income. Exhibit 7: Percentage of participants holding a single investment option, by age

Percentage of participants

60%

56% 49%

50% 41%

40%

38% 34%

30% 20%

29%

28%

29%

14%

15%

45–49

50–54

18%

10% 0%

30%

20–24

14%

14%

14%

14%

25–29

30–34

35–39

40–44

Blended option

Age

30%

33%

39%

28% 17%

55–59

21%

60–64

65–69

70+

Nonblended option

Partial lifecycle option investors: a subset that bears watching Just as lifecycle options have made their way into the lineup of more and more plans, so has the population of partial lifecycle option investors increased — participants holding some, but not all, of their plan assets in this type of option. This raises questions about participants’ overall asset allocation: specifically, assuming a retirement age of 65, do their non–lifecycle holdings make their portfolio too aggressive or conservative, ultimately contradicting the very principle of lifecycle fund investing?

10

© 2008 FMR LLC. All rights reserved.

Exhibit 8: Percentage of assets invested in equities, by age, for participants holding both lifecycle and other investment options 100%

Percentage of assets in equities

90% 80% 70% 60% 50% 40% 30% 20% 10% 0%

20

25

30

35

40

45

50

55

60

65

70

75

Age Fidelity Freedom Funds equity rolldown schedule

 alues within 10 percentage V points of rolldown schedule

Median for participants with some, but not all, assets in lifecycle option

Median for participants with no assets in lifecycle option

The Fidelity Freedom Funds® are target-date lifecycle funds designed to become more conservative and to hold a smaller percentage of equities as investors approach their retirement date. This exhibit and Exhibit 10 assume that participants will retire in the year they turn age 65. The equity rolldown schedule line is as of May 30, 2006, and it would continue down to 20% at age 80. Investors should allocate assets based on individual risk tolerance, investment time horizon, and personal financial situation. A particular asset allocation may be achieved by using different allocations in different accounts or by using the same one across multiple accounts. The equity rolldown shown is not intended as a benchmark for individual investors; rather, it is a range of equity allocations that may be appropriate for many investors saving for retirement and retiring at age 65. See the Exhibit Methodology section at the end of this paper for the definition of equities and an explanation of participant data included.

For partial lifecycle option investors beyond age 30, equity holdings tend to be slightly higher than retirement age-appropriate levels (Exhibit 8). In other words, these participants’ non-lifecycle holdings are more aggressive than their lifecycle options. The opposite pattern holds for the youngest participants, whose portfolios are too conservative relative to their equity exposure benchmarks. Despite the retirement age-appropriate mix within their lifecycle holdings, many of these individuals could be languishing in stable value or short-term default options. Fortunately, this situation can be quickly addressed with an appropriate asset exchange.

  Equity holdings of participants over the age of 30 who are invested only partially in lifecycle options are higher than what may be considered retirement ageappropriate levels.

Additionally, plan sponsors can help put young employees on the right track from the start, by choosing the plan default option carefully — especially for plans with automatic enrollment.

© 2008 FMR LLC. All rights reserved.

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The all-time high in retirement ageappropriate equity investing One important indicator of retirement age-appropriate investing is the proportion of an employee’s portfolio composed of equity investments. For a reference measure, Fidelity used the current target equity percentages for its line of lifecycle options, the Fidelity Freedom Funds. For the purpose of group evaluation, a retirement age of 65 was assumed for

  32% of participants are now within 10% points of their target equity range.

all participants. Participants’ equity holdings were compared with those of the Fidelity Freedom Fund that most closely matched the year they would turn 65. Participants within 10 percentage points above or below the equity exposure

of their applicable Freedom Fund were considered on target. Those more than 10 percentage points above or below their target equity range were considered over- or underinvested in equities, respectively. Exhibit 9: P  ercentage of participants within 10 percentage points of retirement age-appropriate equity holdings (as measured against the Fidelity Freedom Funds’ equity rolldown schedule)

Percentage of participants

35%

32%

30%

28%

25% 20%

23%

25%

21% 17%

17%

3/31/00

3/31/01

18%

18%

3/31/02

3/31/03

15% 10% 5% 0%

3/31/04

3/31/05

3/31/06

3/31/07

3/31/08

Since 2000, the percentage of employees within their target equity range has increased steadily. Nearly one third of today’s participants fit into this category (Exhibit 9). It is worth noting that the positive momentum toward retirement age-appropriate equity holdings continues to increase — despite the market volatility of the past year — due largely to plans’ adoption of lifecycle options, and particularly when these are the default option. Appropriate asset allocation and support in assuming a long-term perspective can help mitigate a common problem among participants and other investors: the tendency to respond out of fear when market volatility is high.

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© 2008 FMR LLC. All rights reserved.

Looking long term, the number of retirement age-appropriate investors should continue to climb, due to the rapid creation of new lifecycle investors and that product’s unique ability to keep an investor’s asset allocation on target automatically as the participant approaches his or her retirement year. Exhibit 10: Percentage of assets invested in equities, by age 100%

Percentage of assets in equities

90% 80% 70% 60% 50% 40% 30% 20% 10% 0%

20

25

30

35

40

45

50

55

60

65

70

75

Age Fidelity Freedom Funds equity rolldown schedule

 alues within 10 percentage V points of rolldown schedule

Individual values for participants

Median for all participants

Exhibit 10 uses the same methodology as Exhibit 8. Please see the disclosure under that exhibit for further details.

As Exhibits 9 and 10 indicate, most participants still remain outside the retirement age-appropriate asset allocation band (using the Fidelity Freedom Funds’ equity rolldown schedule as a reference). In some cases — as with workers in their 20s with few or no equity holdings, or retirees holding nothing but equities — the outliers could face serious financial consequences. Even those investing some of their money in lifecycle options or other diversified products can be dragged into overly conservative or aggressive territory by the nature of their other holdings. This is a strong possibility for default investors who accumulate sizable stable value, short-term, or company stock holdings, only to have their default option switched (and future contributions directed) to a lifecycle or blended option. There are still challenges ahead in our efforts to ensure that all employees are on track toward a more secure retirement.

© 2008 FMR LLC. All rights reserved.

13

ACTION PLAN

Improving asset allocation among your employees Together, PPA regulations, the DOL’s guidelines on QDIAs, and a solid selection of diversified investment options provide the tools and incentives necessary to put many more employees on the path to retirement age-appropriate asset allocation. Here are several steps you can take to move forward today.

1

Define success for your plan

  R  eview your asset allocation goals and the appropriateness of your investment lineup. If your aim is age-appropriate investing, ensure that stable value, short-term, and company stock offerings are not being overemphasized.

 Weigh the effectiveness of your current default fund. If the default is a stable value or short-term option, consider switching it for a QDIAeligible default—such as a lifecycle option or managed account—and taking the steps necessary for qualified status.

  S  pread the advantages of a new, age-appropriate default beyond new enrollees.

Action step

If you’ve recently switched to a qualified default option from a stable value or shortterm option, consider reenrolling existing participants into the new default option or actively promoting an asset exchange.

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  E valuate the role company stock plays in your plan. If you encourage stock ownership, weigh the effect on appropriate asset allocation, as well your comfort level with the resulting risk.

© 2008 FMR LLC. All rights reserved.

Action step

2

Know how your asset allocation compares

  B enchmark your plan against peers, competitors, and top performers. A Fidelity Representative can show you how your employees’ asset allocation compares with organizations in your industry, field of endeavor, or those of similar size—or across our entire plan base.

3

Leverage the fiduciary opportunities

  C onsider the protection that comes with a qualified default investment alternative.

Action step

The government has never been more supportive of an employer’s efforts to help employees invest appropriately.

  R eview the basics of QDIA compliance. If you want to know more about the fiduciary protection offered by adopting a QDIA, ask for our Guide to Understanding and Selecting a Qualified Default Investment Alternative (QDIA).

Action step

4

Monitor investment progress regularly

 I f you don’t make a move now, keep an eye on your employees’ investment activity. Fidelity’s quarterly Investment Review, including the measures highlighted in this publication, can provide the information you need to help you monitor the effects of your plan’s default investment strategies.

Promoting sound investing: It is important to keep in mind that many defined contribution plan investors are not inclined to manage their accounts, or don’t have the knowledge to do so. By leveraging today’s wealth of professionally managed all-in-one investments, favorable regulations, and the willingness to refine your plan, you can greatly improve asset allocation in just a few short years, if not considerably sooner. For more on helping your employees achieve retirement age-appropriate asset allocation, contact your Fidelity representative. 

© 2008 FMR LLC. All rights reserved.

15

EXHIBIT METHODOLOGY

For Exhibits 8 and 10, “Equities” are defined as domestic equity, international equity, company stock, and the equity portion of blended investment options. A random sample of 5,000 participant data points are plotted on this chart. Percentage of assets invested in equities is based on data for participants in the defined contribution plans recordkept by Fidelity with a balance as of quarter end. These plans included both qualified and assetized nonqualified plans (i.e., nonqualified plans informally funded with mutual funds and other securities), as well as single-fund plans, which include Employee Stock Ownership Plans (ESOPs). Plans sponsored by Fidelity Investments for the benefit of its own employees are excluded. The Fidelity Freedom Funds® rolldown schedule on both Exhibits illustrate the Freedom Funds’ target asset allocations among equities and was created by Strategic Advisers, Inc. This rolldown schedule also illustrates how these allocations may change over time. The Freedom fund future target asset allocations may differ from this approximate illustration.

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© 2008 FMR LLC. All rights reserved.

17

2

Before investing in any mutual fund, please carefully consider the investment objectives, risks, charges and expenses. For this and other information, call or write Fidelity for a free prospectus. Read it carefully before you invest. Strategic Advisers, Inc., a subsidiary of FMR LLC., manages the Fidelity Freedom Funds. For plan sponsor use only. Investment and workplace savings plan products and services offered directly to investors and plan sponsors are provided by Fidelity Brokerage Services LLC, Member NYSE, SIPC, 300 Puritan Way, Marlborough, MA 01752. Investment and workplace savings plan products and services distributed through investment professionals are provided by Fidelity Investments Institutional Services Company, Inc., 82 Devonshire Street, Boston, MA 02109. 500389.1.0

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