Cerulli Associates, a global analytics firm, has released research indicating that mitigating fiduciary risk in defined contribution (DC) pension plans has been a significant factor in spurring demand for low cost passive products such as exchange-traded funds in the US.

Jessica Sclafani, Associate Director at Cerulli.

Under the Employee Retirement Income Security Act of 1974, fiduciaries (anyone who provides advice or exercises discretionary control over a pension plan’s management) can be held liable for losses incurred as a result of errors or omissions or breaches of their fiduciary duties.

Recent high-profile settlements from firms such as General Dynamics (Aug 2010 – $15.5m) and Walmart (Dec 2011 – $13.5m) are reminders that DC plan sponsors can be held responsible for fiduciary failings. As such, successfully managing fiduciary risk has become a prominent concern for plan sponsors over the years.

The Cerulli report, which surveyed DC plan sponsors with over $100m in plan assets, identified fiduciary liability and cost concerns as the two greatest factors considered when making plan decisions. This belief has driven a surge in demand from plan sponsors for low-cost passive products such as ETFs.

“The industry’s focus on reducing fees supports continued flows into low-cost, passive products. Asset managers feel this pressure, with half identifying increased demand for passive funds as a major challenge to winning DC assets,” said Jessica Sclafani, Associate Director at Cerulli.

She warns however that using low-cost passive products does not automatically translate to reduced fiduciary liability: “Countering the demand for passively managed funds has been a difficult task in the face of strong domestic equity returns and is not a challenge unique to the DC industry. What is unique to the DC industry is that demand for passive strategies is being driven by the misunderstanding of many plan fiduciaries that choosing passive is a way to offload or mitigate their fiduciary liability.”