Practical analysis for investment professionals
15 October 2021

Passive Management: The Baseline for Defined Contribution Plan Sponsors?

Ample data demonstrates that passive management has largely outperformed its active counterpart net of fees for well over a decade. This has helped induce a mass asset transfer from active funds to exchange-traded funds (ETFs) and other passive alternatives and sparked considerable debate about the future of active management and what role it should play in investment portfolios. How, for example, should sponsors of defined contribution (DC) plans approach the issue?

A recent monograph from the CFA Institute Research Foundation explored that question, among many others of import to DC plan sponsors. Media coverage of the book focused on the role of actively managed funds in a DC plan’s potential investment lineup and prompted responses from some influential investment industry voices. Below the monograph’s authors address the critiques.


Our recent publication, Defined Contribution Plans: Challenges and Opportunities for Plan Sponsors, has generated considerable debate over one small segment of a very broad-based policy book. Some critics have misinterpreted our discussion regarding the inclusion of actively managed investment options in defined contribution (DC) plan lineups. Much of this controversy was caused by an industry news article that incorrectly stated that we believed that DC sponsors could be sued for hiring active managers.

We said nothing of the sort.

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Let’s be clear: We are active management skeptics. Hiring and retaining value-added active managers is hard, even when sponsor investment committees are guided by professional assistance. Some plan sponsors have considered the issue and chosen to provide only a suite of passively managed investment options. On the other hand, many sponsors have included actively managed investment options and they have suffered no legal consequences for those decisions.

We do not believe that sponsors who conduct appropriate due diligence and choose to offer active investment strategies in their investment lineups are exposing themselves to legal risk. We argue that sponsors should do no harm in their selection of investment options. By that we mean that sponsors should carefully weigh the costs (fees, additional investment risks, participant communications, and investment committee time) associated with active manager selection and through their documented considerations convince themselves that the benefits outweigh the costs. That would seem obvious as an objective for choosing any investment options.

Nevertheless, we want to emphasize that this statement is a policy guideline, not a legal standard. What we proposed to sponsors is that they start with passive management as a baseline for selecting investment options. Active management is built on deviations from a passive benchmark. If active managers cannot add value, then passive is the preferred position, not the other way around.

That hardly seems controversial. We believe that many sponsors will and should arrive at this position. However, if a sponsor can convince itself with thorough research that the added fees and additional active management risk of an actively managed strategy best serve the purposes of a segment of their plan participants, then the sponsor is justified in hiring the manager. There is no serious legal risk involved.

Tile of Defined Contribution Plans

Different sponsors will arrive at different conclusions about the value of active management across different asset categories and investment strategies. That is why the active versus passive debate has raged for 50 years and won’t disappear any time soon.

We urge interested practitioners to read our entire book. It is full of interesting observations and recommendations across the entire range of responsibilities of DC plan sponsors. We expect readers will agree with us on some topics and (perhaps strongly) disagree on others. That is the nature of research and informed debate.

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

Image credit: ©Getty Images / tunart


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About the Author(s)
Jeffery V. Bailey, CFA

Jeffery V. Bailey, CFA, is a senior finance lecturer at the University of Minnesota. Previously, he was senior director, benefits, at Target Corporation, where he supervised the company’s employee benefit plans and directed the investment of the defined benefit (DB) and defined contribution (DC) plans. Prior to that, Bailey was a managing partner of Richards & Tierney, a Chicago-based pension consulting firm specializing in quantitative risk control techniques. He also served as assistant executive director of the Minnesota State Board of Investment, which manages the pension assets of Minnesota public employees. Bailey has published numerous articles about pension management. He co-authored the textbooks Investments and Fundamentals of Investments with William F. Sharpe and Gordon J. Alexander and co-authored the CFA Institute Research Foundation publications A Primer for Investment Trustees and Controlling Misfit Risk in Multiple-Manager Investment Programs. He is a director of the University of Minnesota Foundation Investment Advisors. Bailey received a BA in economics from Oakland University and an MA in economics and an MBA in finance from the University of Minnesota.

Kurt D. Winkelmann

Kurt D. Winkelmann has over 30 years of experience in investments and pension-related issues. He is a co-founder and the CEO of Navega Strategies, LLC, a quantitative investment research firm providing investment solutions. He has been a senior fellow at the Heller-Hurwicz Economics Institute (University of Minnesota), where he spearheaded the organization’s pension policy initiative. Before founding Navega, Winkelmann was managing director and global head of research at MSCI. Prior to that, he was a managing director at Goldman Sachs, where he led the Global Investment Strategies group in the Investment Management Division. Winkelmann has written extensively on asset allocation and risk management themes. He has been an adviser to the Monetary Authority of Singapore, a board member of the Alberta Investment Management Company, an adviser to the British Coal Staff Superannuation Scheme, and a director of the University of Minnesota Foundation Investment Advisors. Winkelmann is chair of the Advisory Board for the Heller-Hurwicz Economics Institute. He received his PhD and MA in economics from the University of Minnesota and his BA in economics and mathematics from Macalester College.

2 thoughts on “Passive Management: The Baseline for Defined Contribution Plan Sponsors?”

  1. Kirk Cornwell says:

    There are still strong arguments for indexing, etc. And still the possibility that a rush to the exits will produce a
    “Sell? Sell to whom?” downdraft after a ‘black swan event’. Fun.

  2. Robert Hannah says:

    Our pension plan was also an early convert to indexing for major market segments – those being investment grade bonds and equities in US and some other developed markets. This really helped cut down the manager search demands. Manager value added might appear in the less efficient market segments – small cap, parts of EAFE, and emerging markets.

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