A stable value fund is a type of investment available in

401(k) plans In the United States, a 401(k) plan is an employer-sponsored, defined-contribution, personal pension (savings) account, as defined in subsection 401(k) of the U.S. Internal Revenue Code. Periodical employee contributions come directly out of their ...

and other

defined contribution plan A defined contribution (DC) plan is a type of retirement plan in which the employer, employee or both make contributions on a regular basis. Individual accounts are set up for participants and benefits are based on the amounts credited to these a ...

s as well as some 529 or tuition assistance plans. Stable value funds are often made available in these plans under a name that intends to describe the nature of the fund (such as ''capital preservation fund'', ''fixed-interest fund'', ''capital accumulation fund'', ''principal protection fund'', ''guaranteed fund'', ''preservation fund'', or ''income fund'' among others). They offer principal preservation, predictable

returns Return may refer to: In business, economics, and finance * Return on investment (ROI), the financial gain after an expense. * Rate of return, the financial term for the profit or loss derived from an investment * Tax return, a blank document or t ...

, and a rate higher than similar options without proportionately increasing risk. The funds are structured in various ways, but in general they are composed of high quality, diversified

fixed income Fixed income refers to any type of investment under which the borrower or issuer is obliged to make payments of a fixed amount on a fixed schedule. For example, the borrower may have to pay interest at a fixed rate once a year and repay the prin ...

portfolios that are protected against interest rate volatility by contracts from

bank A bank is a financial institution that accepts deposits from the public and creates a demand deposit while simultaneously making loans. Lending activities can be directly performed by the bank or indirectly through capital markets. Because ...

s and

insurance companies Insurance is a means of protection from financial loss in which, in exchange for a fee, a party agrees to compensate another party in the event of a certain loss, damage, or injury. It is a form of risk management, primarily used to hedge ...

. For example, a stable value fund may hold highly rated government or corporate debt, asset-backed securities, residential and commercial mortgage-backed securities, and cash equivalents. Stable value funds are designed to preserve principal while providing steady, positive returns, and are considered one of the lowest risk investment options offered in 401(k) plans. Stable value funds have recently been returning an annualized average of 2.72% as of October 2014, higher than the 0.08% offered by money-market funds, and are offered in 165,000

retirement plans A pension (, from Latin ''pensiō'', "payment") is a fund into which a sum of money is added during an employee's employment years and from which payments are drawn to support the person's retirement from work in the form of periodic payments ...

Explanation

The investment objective of stable value funds is to provide capital preservation and predictable, steady returns. During the

2008 financial crisis 8 (eight) is the natural number following 7 and preceding 9. In mathematics 8 is: * a composite number, its proper divisors being , , and . It is twice 4 or four times 2. * a power of two, being 2 (two cubed), and is the first number of t ...

, stable value funds were one of the few 401(k) investments that produced a positive return; stable value fund returns generally ranged between 3 and 5 percent for 2008. Stable value funds generally invest in high

credit rating A credit rating is an evaluation of the credit risk of a prospective debtor (an individual, a business, company or a government), predicting their ability to pay back the debt, and an implicit forecast of the likelihood of the debtor defaulting. ...

bonds, typically AAA and AA, and then “wrap” them with contracts issued by banks and insurance companies that help smooth out the returns of the underlying portfolio of bonds. The wrap protects the fund in times of market volatility by smoothing out the losses and gains of the underlying investments over the duration of the fund. Another popular stable value structure is the general account product which provides a fixed rate of return for a stated period backed by the full faith and credit of the insurance company and transfers investment risks to the insurer as well. Stable value funds have a level of risk and stability similar to that of money market funds but generate higher returns. Stable value funds are offered in approximately half of all 401(k) plans and some 529 tuition savings plans. Individuals have invested $770 billion in stable value funds through 165,000 defined contribution plans, which include 457,

403(b) In the United States, a 403(b) plan is a U.S. tax-advantaged retirement savings plan available for public education organizations, some non-profit employers (only Internal Revenue Code 501(c)(3) organizations), cooperative hospital service organiza ...

and

401(k) plan In the United States, a 401(k) plan is an employer-sponsored, defined-contribution, personal pension (savings) account, as defined in subsection 401(k) of the U.S. Internal Revenue Code. Periodical employee contributions come directly out of the ...

s as of June 2015.

History

Stable value funds have been around since the inception of US

s in the 1970s. Initially they consisted of guaranteed investment contracts, or GICs, which were backed solely by the issuer’s claims-paying ability. GICs are issued by

and guarantee principal invested plus a periodically-reset

interest rate An interest rate is the amount of interest due per period, as a proportion of the amount lent, deposited, or borrowed (called the principal sum). The total interest on an amount lent or borrowed depends on the principal sum, the interest rate, th ...

for a specific duration. The primary concern plan sponsors had in regards to GICs was the lack of flexibility and ownership of

assets In financial accountancy, financial accounting, an asset is any resource owned or controlled by a business or an economic entity. It is anything (tangible or intangible) that can be used to produce positive economic value. Assets represent value ...

, which was partly remedied with the creation of separate account GICs. Separate account GICs hold the assets of the plan in a separate account that cannot be used to settle

claims Claim may refer to: * Claim (legal) * Claim of Right Act 1689 * Claims-based identity * Claim (philosophy) * Land claim * A ''main contention'', see conclusion of law * Patent claim * The assertion of a proposition; see Douglas N. Walton * A righ ...

against the insurer’s general account. Then in mid-1988 a broader array of stable value funds began to be offered, including the now common synthetic GIC. A synthetic GIC is a contract for a separately managed portfolio of fixed securities that is owned by the plan, often referred to as a wrap because it wraps the portfolio and protects it against rate fluctuations. In 2007, the Department of Labor excluded stable-value funds from their list of qualified default investment alternatives (QDIAs), but allowed retirement plans using stable-value funds a "grandfather" their choice. Today, the most commonly used type of contract in stable value funds is the synthetic GIC and from 1999 through 2014 stable value funds averaged a total return of 4.35% with a

standard deviation In statistics, the standard deviation is a measure of the amount of variation or dispersion of a set of values. A low standard deviation indicates that the values tend to be close to the mean (also called the expected value) of the set, while ...

of 1.23%. For money-market funds, the average total return was 1.93% with a standard deviation of 2.08%; and for intermediate-term bonds, 4.82% and 3.15%.

Types of stable value funds

Stable value funds are structured in one of three ways: as a separately managed account, which is a stable value fund managed for one specific 401(k) plan; as a commingled fund, which pools together assets from many 401(k) plans and offers the benefits of diversification and economies of scale for smaller plans; or as a guaranteed insurance company account, which issues a group

annuity In investment, an annuity is a series of payments made at equal intervals.Kellison, Stephen G. (1970). ''The Theory of Interest''. Homewood, Illinois: Richard D. Irwin, Inc. p. 45 Examples of annuities are regular deposits to a savings account, mo ...

contract directly to the plan. Regardless of how stable value funds are structured, they are a diversified portfolio of fixed income securities that are insulated from interest rate movements by contracts from banks and insurance companies. How this contract protection is delivered depends on the type of stable value fund

investment Investment is the dedication of money to purchase of an asset to attain an increase in value over a period of time. Investment requires a sacrifice of some present asset, such as time, money, or effort. In finance, the purpose of investing i ...

purchased and is provided through one or more of the following investment instruments:

Guaranteed Investment Contract (GIC)/General Account Contract

A group annuity contract with an insurance company that provides principal preservation and a specified rate of return over a set period of time, regardless of the performance of the underlying invested assets. The invested assets are owned by the insurance company and held within the insurer’s general account.

Separate Account Contract

A contract with an insurance company that provides principal preservation and a specified rate of return over a set period of time on an account that holds a combination of

securities A security is a tradable financial asset. The term commonly refers to any form of financial instrument, but its legal definition varies by jurisdiction. In some countries and languages people commonly use the term "security" to refer to any for ...

. Separate accounts may provide either a fixed, indexed, or periodic rate of return based on the performance of the underlying assets. The assets are owned by the insurance company and are set aside in a separate account solely for the benefit of the specific contract holder or retirement plan.

Synthetic GIC

A contract with a bank or insurance company (commonly referred to as a wrap) that guarantees a

rate of return In finance, return is a profit on an investment. It comprises any change in value of the investment, and/or cash flows (or securities, or other investments) which the investor receives from that investment, such as interest payments, coupons, ca ...

for a portfolio of assets held in an external

trust Trust often refers to: * Trust (social science), confidence in or dependence on a person or quality It may also refer to: Business and law * Trust law, a body of law under which one person holds property for the benefit of another * Trust (bus ...

. The rate of return is reset periodically and is based on the actual performance of the underlying assets. The assets are owned by the participating plan or plans. The typical stable value fund will diversify contract protection by investing in more than one instrument type and/or with more than one insurance company or bank. Stable value portfolio

managers Management (or managing) is the administration of an organization, whether it is a business, a nonprofit organization, or a government body. It is the art and science of managing resources of the business. Management includes the activities o ...

also limit risk by holding a mix of maturities, such as intermediate-term bonds and short-term bonds generally with

credit ratings A credit rating is an evaluation of the credit risk of a prospective debtor (an individual, a business, company or a government), predicting their ability to pay back the debt, and an implicit forecast of the likelihood of the debtor defaulting. ...

of AAA or AA.

Risks

Stable value funds are considered one of the lowest risk investments offered in

s; however, like any investment, they do have some

risks In simple terms, risk is the possibility of something bad happening. Risk involves uncertainty about the effects/implications of an activity with respect to something that humans value (such as health, well-being, wealth, property or the environme ...

, which include:

Interest Rate Lag

In rapidly changing rate environments the returns on stable value funds may change more slowly than those of the marketplace, including similar investments such as

money market fund A money market fund (also called a money market mutual fund) is an open-ended mutual fund that invests in short-term debt securities such as US Treasury bills and commercial paper. Money market funds are managed with the goal of maintaining a hi ...

s. However, stable value funds still tend to outperform investments such as money market funds over time.

Liquidity Risk

To prevent yield chasing, stable value funds generally contain “equity wash rules” limiting transfers to competing investments such as a

or short-term

bond fund A bond fund or debt fund is a fund that invests in bonds, or other debt securities. Bond funds can be contrasted with stock funds and money funds. Bond funds typically pay periodic dividends that include interest payments on the fund's underlying ...

. Generally a participant must first place money in a

stock In finance, stock (also capital stock) consists of all the shares by which ownership of a corporation or company is divided.Longman Business English Dictionary: "stock - ''especially AmE'' one of the shares into which ownership of a company ...

equity fund A stock fund, or equity fund, is a fund that invests in stocks, also called equity securities. Stock funds can be contrasted with bond funds and money funds. Fund assets are typically mainly in stock, with some amount of cash, which is generall ...

for at least 90 days, but cash withdrawals have no waiting periods.

Contract Issuer/Guarantor Risk

Contract issuers can become less financially stable. This risk is most pronounced in funds with non-synthetic GICs because a single

guarantor In finance, a surety , surety bond or guaranty involves a promise by one party to assume responsibility for the debt obligation of a borrower if that borrower defaults. Usually, a surety bond or surety is a promise by a surety or guarantor to pa ...

is backing the fund with the

full faith and credit Article IV, Section 1 of the United States Constitution, the Full Faith and Credit Clause, addresses the duty that states within the United States have to respect the "public acts, records, and judicial proceedings of every other state." Accor ...

of the company. Most stable value funds mitigate this risk by purchasing contracts from multiple issuers, and stable value contract providers are generally strong

financial institutions Financial institutions, sometimes called banking institutions, are business entities that provide services as intermediaries for different types of financial monetary transactions. Broadly speaking, there are three major types of financial insti ...

Investor Cash Flows Affect Returns

An influx of money to a stable value fund during a period of low interest rates can result in more investments at the current rate, which may dilute returns for

investors An investor is a person who allocates financial capital with the expectation of a future return (profit) or to gain an advantage (interest). Through this allocated capital most of the time the investor purchases some species of property. Type ...

. However, the alternative is also true. Large outflows of money into a stable value fund when interest rates are high can alternatively increase

. Most stable value funds include a cash buffer to pay out withdrawals and minimize cash flow effects so the stable value fund crediting rates remain stable and consistently positive.

Employer Initiated Events

Certain employer initiated events can limit the liability of contract issuers, potentially leaving investors with losses. Events such as major

layoffs A layoff or downsizing is the temporary suspension or permanent termination of employment of an employee or, more commonly, a group of employees (collective layoff) for business reasons, such as personnel management or downsizing (reducing the ...

mergers Mergers and acquisitions (M&A) are business transactions in which the ownership of companies, other business organizations, or their operating units are transferred to or consolidated with another company or business organization. As an aspect ...

, and

bankruptcy Bankruptcy is a legal process through which people or other entities who cannot repay debts to creditors may seek relief from some or all of their debts. In most jurisdictions, bankruptcy is imposed by a court order, often initiated by the debtor ...

will typically invalidate the

portfolio Portfolio may refer to: Objects * Portfolio (briefcase), a type of briefcase Collections * Portfolio (finance), a collection of assets held by an institution or a private individual * Artist's portfolio, a sample of an artist's work or a ...

’s contracts since they increase the possibility that an issuer would have to pay out on contracts for these management initiated events. Losses in such cases are rare, since most companies generally have enough time to negotiate continued coverage for the stable value fund. Many stable value funds have survived bankruptcies without any losses, for example in the case of

Enron Enron Corporation was an American energy, commodities, and services company based in Houston, Texas. It was founded by Kenneth Lay in 1985 as a merger between Lay's Houston Natural Gas and InterNorth, both relatively small regional companies. ...

in 2001.

Regulations

Stable value funds have multiple layers of government oversight. The vast majority of funds are regulated by the

Department of Labor The Ministry of Labour ('' UK''), or Labor ('' US''), also known as the Department of Labour, or Labor, is a government department responsible for setting labour standards, labour dispute mechanisms, employment, workforce participation, training, a ...

Employee Benefits Security Administration The Employee Benefits Security Administration (EBSA) is an agency of the United States Department of Labor responsible for administering, regulating and enforcing the provisions of Title I of the Employee Retirement Income Security Act of 1974 ...

and must comply with the federal pension law, the

Employee Retirement Income Security Act The Employee Retirement Income Security Act of 1974 (ERISA) (, codified in part at ) is a U.S. federal tax and labor law that establishes minimum standards for pension plans in private industry. It contains rules on the federal income tax eff ...

(ERISA). Stable value funds in defined contribution plans for state and local governments (

457 plan The 457 plan is a type of nonqualified, tax advantaged deferred-compensation retirement plan that is available for governmental and certain nongovernmental employers in the United States. The employer provides the plan and the employee defers comp ...

s) are regulated by the states, which have adopted requirements similar to ERISA. In addition to the Department of Labor, stable value investment structures provided and/or managed by banks are regulated by the

Office of the Comptroller of Currency The Office of the Comptroller of the Currency (OCC) is an independent bureau within the United States Department of the Treasury that was established by the National Currency Act of 1863 and serves to charter, bank regulation in the United States ...

and/or the

Federal Reserve The Federal Reserve System (often shortened to the Federal Reserve, or simply the Fed) is the central banking system of the United States of America. It was created on December 23, 1913, with the enactment of the Federal Reserve Act, after a ...

. Stable value funds offered by insurance companies are regulated by the various state insurance departments, and commingled investment funds are regulated by the

Securities and Exchange Commission The U.S. Securities and Exchange Commission (SEC) is an independent agency of the United States federal government, created in the aftermath of the Wall Street Crash of 1929. The primary purpose of the SEC is to enforce the law against market ...

under the Investment Company Act. All stable value funds must comply with accounting regulations by the

Financial Accounting Standards Board The Financial Accounting Standards Board (FASB) is a private standard-setting body whose primary purpose is to establish and improve Generally Accepted Accounting Principles (GAAP) within the United States in the public's interest. The Securi ...

(FASB) (for corporate defined contribution plans) or the

Governmental Accounting Standards Board The Governmental Accounting Standards Board (GASB) is the source of generally accepted accounting principles (GAAP) used by state and local governments in the United States. As with most of the entities involved in creating GAAP in the United Stat ...

(GASB) (for state and local defined contribution plans) to qualify for contract value accounting and reporting. Generally, FASB and GASB require that a stable value fund must meet all of the following criteria: *The contract is effected directly between the fund and issuer and prohibits the sale or assignment of the contract or its proceeds to another party without the consent of the issuer; *The repayment of principal and interest credited to participants in the fund is a financial obligation of the issuer of the contract. Prospective interest-crediting rate adjustments are permitted as long as they are not less than zero, and the contract issuer must be a financially sound institution; *The terms of the contract require all permitted participant-initiated transactions with the fund to occur at contract value; *An event that limits the ability of the fund to transact at contract value with the issuer and limits the ability of the fund to transact at contract value with participants in the fund must not be probable of occurring; *The fund itself must allow participants reasonable access to their funds.

Role in a Portfolio

Stable value funds are a low risk option for

and provide stability for investors seeking to minimize volatility, which is important for an investor nearing retirement or in retirement who would want to preserve principal and minimize risk. Because of their low risk and stable, consistent returns they also can help diversify

401(k) In the United States, a 401(k) plan is an employer-sponsored, defined-contribution, personal pension (savings) account, as defined in subsection 401(k) of the U.S. Internal Revenue Code. Periodical employee contributions come directly out of their ...

asset allocation for all investors.

Comparable Investments

Money Market Funds

(also known as money market mutual fund) is an open-ended

mutual fund A mutual fund is a professionally managed investment fund that pools money from many investors to purchase securities. The term is typically used in the United States, Canada, and India, while similar structures across the globe include the SICAV i ...

that invests in short-term debt

such as US Treasury bills and

commercial paper Commercial paper, in the global financial market, is an unsecured promissory note with a fixed maturity of rarely more than 270 days. In layperson terms, it is like an " IOU" but can be bought and sold because its buyers and sellers have some ...

. Money market funds are widely (though not necessarily accurately) regarded as being as safe as bank deposits yet providing a higher yield. Regulated in the US under the

Investment Company Act of 1940 The Investment Company Act of 1940 (commonly referred to as the '40 Act) is an act of Congress which regulates investment funds. It was passed as a United States Public Law () on August 22, 1940, and is codified at . Along with the Securities Exc ...

, money market funds are important providers of liquidity to financial intermediaries. Stable value funds have outperformed money market funds in every 12-month period since 1985 with similar volatility and risk and slightly less liquidity.

Bond Funds

is a fund that invests in bonds or other debt

. Bond funds can be contrasted with

stock fund A stock fund, or equity fund, is a fund that invests in stocks, also called equity securities. Stock funds can be contrasted with bond funds and money funds. Fund assets are typically mainly in stock, with some amount of cash, which is generall ...

s and money funds. Bond funds typically pay periodic

dividend A dividend is a distribution of profits by a corporation to its shareholders. When a corporation earns a profit or surplus, it is able to pay a portion of the profit as a dividend to shareholders. Any amount not distributed is taken to be re-in ...

s that include interest payments on the fund's underlying securities plus periodically realized capital appreciation. Bond funds typically pay higher dividends than

CDs The compact disc (CD) is a digital optical disc data storage format that was co-developed by Philips and Sony to store and play digital audio recordings. In August 1982, the first compact disc was manufactured. It was then released in Octo ...

and money market accounts. Most bond funds pay out dividends more frequently than individual bonds. Stable value funds offer returns similar to those of intermediate bond funds but with less volatility and risk, and are often recommended as a replacement for bonds in diversified portfolios.

References

{{Reflist

External links

Stable Value Investment Association
Investment funds