By Randy Myers
The stable value industry faces a challenging interest rate environment but still has many opportunities for growth. Stable value providers envision greater use of the asset class in college savings plans and in products designed to generate retirement income.
To be sure, the industry still needs to navigate difficult conditions in its traditional market, retirement savings plans. As baby boomers have begun to retire in earnest, many are cashing out of their 401(k) plans and rolling the proceeds into individual retirement accounts, where stable value funds aren’t eligible to be sold. At the same time, a sharp uptick in short-term interest rates from early 2022 to mid 2023 has driven yields on money market funds above what stable value funds are able pay. That’s generating still more competition for dollars earmarked for capital preservation investment options.
Rising interest rates also have pushed down the market value of stable value portfolios so that their market-to-book ratios (market values divided by book values) are meaningfully below 100%below their book value. While that hasn’t caused any significant problems to date, it could lead to what’s known as a lapse spiral. Already, low market-to-book ratios have helped push crediting rates below money market rates, which might encourage some investors to pull out of the asset class. As they pull their money out at par, this further reduces market-to-book ratios, reducing crediting rates still more, encouraging other investors to pull out of the asset class. In short, the actions of one subset of investors encourages the next to act, which ultimately can spiral. This could lead to requiring stable value wrap providers to make up the difference between market and book values.
Speaking during a roundtable discussion at the 2024 SVIA Spring Seminar in late April, stable value managers and wrap providers expressed confidence in the industry’s health despite the current rate environment, even though they foresee no immediate end to its negative cash flows.
Claudia Farias, vice president at State Street Corp., where she serves as an account manager and product consultant in the Global Credit Finance division, noted that cash flow patterns in stable value funds have varied somewhat by product type. Funds structured as collective investment trusts (CITs), for example, have fared a bit better than separate account products. Farias noted that in 2022, when net cash flows were positive industrywide, CITs were taking in cash at twice the rate of separate accounts. But in 2023, when cash flows turned negative, flows out of CITs were elevated but not double those seen in separate accounts.
Alex Godin, vice president and stable value client portfolio manager at Goldman Sachs Asset Management, added that CITs also may be among the first stable value products to see a performance boost moving forward.
“I think you’ll start to see some separation with the respect to the performance of different CITs out there,” Godin said. “The ones that are distributed very well and are very diversified, and have the ability to attract new investors in excess of the redemption queue, will start to see tailwinds and have an uptick in crediting rates and market value.”
Stable value managers have taken several measures to help them manage through the current rate environment, including, Farias said, adopting tiered liquidity structures in their portfolios to make it easier to match cash flows to fund redemptions.
At Goldman Sachs Asset Management, Godin said, that approach to tiered liquidity structures has taken the form of a laddered series of commingled bond funds in its stable value portfolios.
“That’s served us pretty well in this negative cash flow environment,” Godin said.
While stable value funds have thus far been able to manage through the challenging rate environment, their lagging performance relative to money market funds hasn’t gone unnoticed by retirement plan sponsors. Justin Goldstein, executive director at JPMorgan, where he is a member of the Global Fixed Income, Currency & Commodities Group, said many plan sponsors have been talking about whether it would make sense to add a money market fund to their investment lineup or even replace their stable value fund with a money market fund. Stable value providers contend that would be short-sighted, since over the long term stable value funds tend to outperform money market funds without adding volatility.
“It’s reactionary and short-sighted, will confuse participants, and further erode cash flow into the stable value fund,” said Voya’s Camp.
Still, “there’s quite a bit of fatigue out there from consultants and plan sponsors now that the three-year (performance) number for money market (funds) is outperforming stable value,” Godin conceded. “They get tired of … (being told to) look at the 20-year performance of stable value over money market.”
Plan sponsors also are aware the plaintiffs’ bar could target them with lawsuits if products in their plan’s investment lineup underperform others they could be offering.
“We’re in a period where money market funds are obviously yielding more than stable value funds,” Farias said. “I imagine … they (plan sponsors) feel compelled or almost forced to offer all of the options.”
Indeed, Camp noted that many retirement plans have investment policy statements requiring them to put investment funds on watch if they consistently underperform their benchmark—something that’s happening now for many stable value funds benchmarked against a cash surrogate. Even if the benchmark isn’t a fair one, Camp said, falling behind it can “raise the blood pressure” of plan sponsors.
For all the current challenges, the panelists speaking at the SVIA Spring Seminar unanimously agreed that the stable value industry has weathered them well. They noted that there’s ample wrap capacity in the industry, and that wrap providers have shown flexibility in setting contract terms and investment guidelines.
Asked at what point insurance companies that issue wrap contracts might need to boost reserves to reflect worsening market conditions, Camp said it was a difficult question to answer. But he speculated that market-to-book ratios in the 80% to 90% range, and net withdrawals in the 30% to 40% range, would likely cause some issuers to boost reserves.
“We’re not there,” he hastened to add. “So, we’re still good.”
In terms of opportunities to grow the stable value market, Goldstein pointed to the possibility of using the asset class more aggressively in products designed to help convert retirement savings to retirement income. Camp mentioned the opportunity to use stable value as a component of custom target-date funds structured as CITs, pointing, by way of example, to the MyCompass target-date funds that allocate approximately 5% to 50% of their assets to Voya’s general account stable value product. And Farias cited the potential for greater use of stable value in 529 college savings plans.
Finally, Godin noted that his firm has had some success introducing stable value into Voluntary Employees’ Beneficiary Association (VEBA) plans, which some employers offer to help employees pay for range of benefits such as life and medical insurance. He mentioned that some VEBA funds have recently replaced their short-duration bond funds with stable value funds.
