Gov. Jerry Brown Needs A Few Good Robo Advisors

You might’ve missed this as the summer wound down, but a tremor rumbled across the Golden State during the last week of August that promises to shake up the way millions of Californians save for retirement, or not.

On Aug. 25, the California Assembly passed the California Secure Choice Retirement Savings Trust Act, which had already passed the California Senate, and will be signed by Gov. Jerry Brown within 30 days. (No piece of legislation gets through the state’s Democratically controlled Assembly and Senate without conditional head approval by Brown.)

What the new law will do is provide a retirement program for some 7 million California workers who are not offered any way to save for retirement by their employers, most of which are small businesses. These workers have been left out in the cold when it comes to saving for retirement, so this is a good thing.

3% Deduction, Opt-Out

Companies with five or more employees that don’t offer a retirement plan will be required to deduct 3% of an employee’s paycheck and have it placed in a state-run individual retirement account. No additional funds will be required from the employer.

Employees can opt-out, but as is the case now with most employer-sponsored plans, workers will be enrolled automatically. And unlike most employer-sponsored plans, these accounts would be portable.

Smaller companies have been a tough nut to crack when it comes to the world of retirement plans. For business owners, implementing such a program is not cost efficient. Likewise, financial service firms find it difficult to create a cost-efficient plan for these companies that match their business-model margins.

There are some odd bedfellows opposing what seems on the surface a step in the right direction. The nonprofit World Socialist Web Site and the mutual fund trade group, the Investment Company Institute, have finally found common ground: Both oppose this.

There is an opt-out, which waters down the socialist argument that this masks a 3% pay cut. And the state is not taking business away from the financial world, but would of course mean more mutual funds and ETFs would be sold to people who would not own them without this program.

How Will This Be Carried Out?

The trick will be in the execution, not the idea, as is usually the case. And those who know anything about California’s pension for state workers, CalPERS, knows that the state can be terrible at running pensions—it delivered a 0.61% annual return for its last fiscal year ending June 30—if not outright criminally corrupt (Former CEO of CalPERS is sentenced to prison for his “spectacular breach of trust”).

As of now, the details of how the plan will look and operate have thankfully not been hammered out. This is the time Gov. Brown should enlist members of the financial advisory world that could make this work, starting with folks in his own backyard.

For the sake of costs, the state should consider employing robo-advisor services because these accounts will be small. The average worker will earn $50,000, and 3% of that doesn’t amount to much, and it doesn’t meet most thresholds that human advisors require for their services.

Technology At Hand

Robos have the technology to create accounts and portfolios, and make this feasible. How someone makes a buck on this plan beyond the plan participants should not be a consideration for Brown at this point.

One of the biggest robo advisors in the country, Wealthfront, is based in Palo Alto, California, and would seem to be able to assist Gov. Brown in setting this up. Brown should also consider San Francisco-based Charles Schwab and see if there could be a way to use the basis of the firm’s Intelligent Portfolios, its robo service, to create some kind of online program.

Beyond the state’s borders, New York-based Betterment could be consulted about its 401(k) program robo service aimed at small businesses. Betterment’s program is using low-cost passive ETFs and making headway in helping under-served small business when it comes to retirement programs.

Retirement Blueprint For Other States

The real achievement here would be to establish a blueprint other states could follow. If we want middle-class workers to save for retirement, we cannot assume everyone has access to such plans or the wherewithal to navigate the financial service seas and find a retirement plan on their own.

With no other tangible option for the millions of Californians—as well as millions more Americans—trying something like this is actually doing something tangible about a problem everyone only talks about; namely, the lack of savings by Americans.

The core to the success of this program will be to create a cheap plan that puts investors first, which means using the cheapest products that deliver steady conservative retirement returns. As accounts grow, those workers will feel more like investors, and their financial service needs may grow as well.

My fear is that the same self-serving spirits and poor investment choices that have plagued CalPERS will invade this initiative. Here’s an opportunity for Gov. Brown to write a new page in the U.S. retirement savings book.

Today there exist the technology, companies and cost-efficient products that can deliver a very basic and cheap approach to helping Americans save something for retirement beyond Social Security. As always, the devil will be in the details.

Drew Voros can be reached at [email protected].