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Jonathan A. Parker is the Robert C. Merton (1970) Professor of Finance and codirector of the MIT Golub Center for Finance and Policy. He has held numerous service positions and consulting positions, including Area Head of Economics, Finance and Accounting at Sloan, editor of the NBER Macroeconomics Annual, and special adviser on Financial Stability for the Office of Financial Stability in the U.S. Department of the Treasury in 2009. He currently serves an economic adviser for the Congressional Budget Office, a visiting scholar at the Federal Reserve Bank of Boston, an academic advisor to the JP Morgan Chase Institute, a research associate at the National Bureau of Economic Research, and a member of the Board of Editors of the American Economic Review. An expert in finance, macroeconomics, and household behavior, Parker has published widely on topics such as macroeconomic risks and asset returns, fiscal stabilization policy, national saving, household financial decisions, the measurement of business cycles, and modeling human economic behavior.
Over the past four decades, there has been a dramatic shift in the financial landscape faced by the typical American investor. The broad-based shift from defined-benefit pension plans to defined-contribution (DC) plans has moved the responsibility for asset allocation from pension fund managers to ordinary Americans. More than half of all American households now accumulate significant financial wealth by the time they retire. This shift has been accompanied by changes both in financial regulation and in the financial products available to retail investors, and in particular the rise of target-date or lifecycle funds designed to provide investors with easily-accessible age-appropriate allocations across asset classes. That is, following common portfolio advice, these funds hold given fractions of their assets in stocks and bonds, mostly stocks when the investor is far from retirement, and an increasing share of bonds as the investor approaches their expected retirement date, the ‘target date.’
The rise of target date funds – driven by both financial regulation and the 2006 Pension Protection Act -- has been accompanied by a large change in the way typical Americans invest. Analyses of anonymized big data on individual financial accounts show that the typical Americans investor now holds much more of their portfolio in stocks and less in bonds than previously. This large change is partly driven by target date funds, but the rise in investment in stocks is more pronounced and broader than just that caused directly by target date funds, suggesting that the implicit portfolio advice in these funds spread beyond their own direct reach.
The rise of target date funds has not only changed the investment behavior of typical Americans, but it has shifted the dynamics of the stock market. While not an original intention of this financial innovation, target date funds have moved a significant fraction of US retail investors to an actively ‘market-contrarian’ trading strategy that trades against aggregate stock market momentum and fluctuations. Traditionally, many retail investors are either passive – letting their portfolio shares rise and fall with the returns on different asset classes – or they are active and tend to reallocate their assets into asset classes or funds with better past performance, a behavior known as ‘positive feedback trading’ or ‘momentum trading’ that can amplify price fluctuations. In contrast, by rebalancing to maintain age-appropriate asset allocation, target date funds sell equity after good performance and buy equity after bad. This has changed investor flows across mutual funds held by target date funds and has changed the returns of the individual stocks that they hold.
But how should typical working Americans invest? This question can now be answered more accurately and robustly and in a more customized manner than ever before. Machine learning methods are being developed to solve for optimal saving and portfolio choices in complex non-linear – one might even say ‘realistic’ -- lifecycle portfolio models. These solutions can be used to design better funds, or to improve robo-advising tools to provide proscriptive advice on saving and portfolios for typical American retirees.
Ms. Heidi V. Pickett is the Assistant Dean of the MIT Sloan Master of Finance program with responsibility for developing and implementing new programing, engaging external stakeholders, and executing strategies supporting the mission of producing the next generation of global financial leaders. She has led study tours in Asia and the UK focused on finance, monetary policy and global markets. Ms. Pickett serves on the policy committees for the Master of Finance Program and Sloan Undergraduate Education and is a member of the MIT Sloan Operating Committee.
With over 20 years in financial services, Ms. Pickett has expertise in corporate development, business strategy, and global operations. Prior to joining MIT Sloan, she served as Senior Managing Director at State Street Global Markets, where she managed global business integration and led the sovereign wealth fund initiative. In March 2011, Heidi was named Malone Fellow in Arab and Islamic Studies where she spent time in Oman during a period of turmoil, protests, and profound change throughout the Middle East. She has focused on Arab cultural, economic, political, and social diversity.
Ms. Pickett serves on the board of directors for Maestro Technologies, a premiere IT Solutions company. In addition, Ms. Pickett is a board advisor to InvestAcure, a spare change investment platform empowering those impacted by Alzheimer’s to invest in companies working on a cure.
Ms. Pickett is the President of the Verrill Foundation, her interests include global and local community focus on the education and well-being of women and girls. She is a member of the Board and co-chair of the nominating and governance committee for Invest in Girls.
Ms. Pickett received a Bachelor of Science in Finance from Bryant University and a Master of Science in Accountancy from Bentley’s McCallum School of Business and completed the Executive Development Program at the Wharton School.
The MIT Sloan Master of Finance (MFin) Program is a top-ranked, STEM program, which emphasizes a foundation in how markets work and a rigorous curriculum engineered around the most advanced financial and quantitative theories and practices. As innovation, regulation and globalization continue to drive change, MFin students are prepared to exceed your expectations today and continue to add value tomorrow.
Egor Matveyev is a Senior Lecturer in Finance and the Executive Director of the MicroMasters Program in Finance at the MIT Sloan School of Management. He holds a Ph.D. in Finance from the University of Rochester. Prior to joining MIT Sloan, he was an Assistant Professor of Finance at the University of Alberta. An expert in corporate finance, corporate governance, and organizational economics, he has published on topics such as valuation of growth options, capital structure, value of CEOs, executive and director labor markets. At MIT Sloan, he teaches core finance courses in the MBA and Sloan Fellows programs, as well as an advanced elective and action learning classes in corporate finance.
The MITx MicroMasters® Program in Finance helps learners around the world meet the complex demands of today’s global finance markets with 5 courses developed and delivered by MIT Sloan faculty. The program offers recent graduates, early to mid-stage professionals, and other individuals interested in pursuing a career in finance, an opportunity to advance in the finance field or fast-track an MIT Sloan Master of Finance degree through a rigorous, comprehensive online curriculum, delivered by the world-renowned MIT Sloan School of Management.
Robert C. Merton is the School of Management Distinguished Professor of Finance at the MIT Sloan School of Management and John and Natty University Professor Emeritus at Harvard University since 2010. He was the George Fisher Baker Professor of Business Administration (1988–98) and the John and Natty McArthur University Professor (1998–2010) at Harvard Business School. After receiving a PhD in Economics from MIT in 1970, Merton served on the finance faculty of MIT's Sloan School of Management until 1988 at which time he was J.C. Penney Professor of Management. He is currently Resident Scientist at Dimensional Fund Advisors Inc.
Merton received the Alfred Nobel Memorial Prize in Economic Sciences in 1997 for a new method to determine the value of derivatives. He is past president of the American Finance Association, a member of the National Academy of Sciences, and a Fellow of the American Academy of Arts and Sciences.
Merton has also been recognized for translating finance science into practice. He received the inaugural Financial Engineer of the Year Award from the International Association for Quantitative Finance (formerly International Association of Financial Engineers), which also elected him a Senior Fellow. He received the 2011 CME Group Melamed-Arditti Innovation Award and the 2013 WFE Award for Excellence from World Federation of Exchanges. A Distinguished Fellow of the Institute for Quantitative Research in Finance ('Q Group') and a Fellow of the Financial Management Association, Merton received the Nicholas Molodovsky Award from the CFA Institute. He is a member of the Halls of Fame of the Fixed Income Analyst Society, Risk, and Derivative Strategy magazines. Merton received Risk’s Lifetime Achievement Award for contributions to the field of risk management and the 2014 Lifetime Achievement Award from the Financial Intermediation Research Society. He received the 2017 Finance Diamond Prize from Fundación de Investigación IMEF.
Merton received a BS in Engineering Mathematics from Columbia University, a MS in Applied Mathematics from California Institute of Technology, and a PhD in Economics from Massachusetts Institute of Technology and numerous honorary degrees from US and foreign universities.
The combination of rapidly aging populations and increasing life expectations have created a global challenge for the funding of retirement. As is evident from the trend of the last decade to cap or outright move away from PAYGO and defined-benefit retirement plans, individuals are becoming increasing responsible for funding and managing a larger proportion of their retirement through personal saving and defined-contribution plans. SeLFIES is a proposed innovation to enable people to do so and improve their retirement outcomes. SeLFIES also offer a potential large-scale efficient source for funding Sustainable Development Goals because its payout pattern matches the cash flow pattern from infrastructure investments essential for SDGs. In addition to matching the payoff pattern, SeLFIES would be local funding for local projects and so would not have local currency risk experienced with foreign bond buyers.
SeLFIES (Standard of Living Indexed Forward-starting Income-only Securities) is a bond designed to replicate the pension-like payout pattern desired by individuals in retirement. Purchased during work life, they have a deferred start of payouts until a specified future date (anticipated retirement date) and from that date on there are annual level payouts with indexing, until a specified ending date (a bit longer than life expectancy at retirement). SeLFIES would be issued as a series with different annual starting dates. The payouts are indexed to aggregate per capita consumption, so that the holder is hedged against both consumption inflation and standard of living change risks. Like an ordinary bond, SeLFIES can be sold in the market or redeemed by the issuer at any time. It is designed to work in any country with a government bond market.
Designed to require only knowledge that individuals already have, SeLFIES address the major challenge of a lack of financial literacy and high transactions cost. The only information the saver needs to select the correct bond is their anticipated retirement date. Once the bond is purchased, there are no further transactions required because there are no coupon payments to reinvest and its payouts match those desired for a pension-like pattern in retirement. Therefore transactions costs and fees are minimized. Complex decisions of how much to save, how to invest, and how to draw down are simply folded into an easy calculation of how many bonds to buy to meet their retirement goal. SeLFIES can be nearly seamlessly coordinated to exchange for a life annuity with the same payout level at retirement for those who desire longevity risk protection.
SeLFIES offer a practical saving solution for individuals who are not part of any public or private pension system. The target replacement level in the public pension system is anticipated to secularly decline and so plan members may want to supplement their system benefits by personal saving in SeLFIES. Institutional investors providing retirement benefits such as pension funds and insurance companies can use large-denomination SeLFIES to efficiently hedge their liabilities.
While any institution could issue SeLFIES in principle, government has several advantages as the issuer including that buyers do not have to assess credit risk; a reliable supply source; that it has a large asset, VAT, which is a near-perfect hedge to the SeLFIES consumption-indexed payouts; SeLFIES will create a long-term source of domestic demand for government bonds and the stability of the government bond market as well as the cost of government finance should therefore improve.