Traditional Pensions Net Higher Stock Market Returns

Individual 401(k) participants fail to match the pros' results.

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During the bull market of the late 1990s, 401(k) plans outperformed traditional pension plans. But this decade has brought a reversal of fortune: During both the 2002 bear market and the 2003-2006 bull market, traditional pension plans outpaced 401(k)'s, according to an analysis by consulting firm Watson Wyatt Worldwide.

The study of companies with both a defined-benefit (traditional) retirement plan and a 401(k) plan found that traditional pension plans beat 401(k) results by 1.6 percentage points in 2006. Money invested at the start of the 12-year period from 1995 through 2006 was worth nearly 14 percent more in the traditional pension plan, Watson Wyatt found.

"The professionals who manage pension funds have considerable financial education, experience, and discipline as well as access to sophisticated investment tools," explains Alan Glickstein, a senior retirement consultant at Watson Wyatt. "These advantages, coupled with a much longer investment time horizon, help defined-benefit plan sponsors maximize their returns and maintain well-diversified portfolios for the benefit of the plan participants."

Achieving high returns is more difficult for do-it-yourself investors. "Individual participants in defined-contribution plans have more volatile asset allocations over time as well as a greater range of investment returns, both positive and negative, even within the year," says Mark Warshawsky, director of retirement research at Watson Wyatt.

Here's how the returns stacked up in recent years.

Median Rates of Return for Defined-Benefit and 401(k) Plans

Year Defined-Benefit Plan 401(k) Plan
2006 12.9% 11.3%
2005 7.7% 6.7%
2004 11.8% 9.8%
2003 21.4% 19.7%
2002 -8.6% -10.9%

Source: Watson Wyatt calculations from Form 5500 data files, 2008