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The Role of Company Stock in Defined Contribution Plans

54 Pages Posted: 4 Oct 2002  

Olivia S. Mitchell

University of Pennsylvania - The Wharton School; National Bureau of Economic Research (NBER)

Stephen P. Utkus

Date Written: October 2002

Abstract

This paper explores the risks and benefits of holding company stock in employer-sponsored defined contribution (DC) retirement plans. We address three questions: (1) What is the role and function of company stock in such plans? (2) Who might be affected by enhanced portfolio diversification in such plans? and (3) What mechanisms exist, or might be developed, to enhance portfolio diversification if more diversification were deemed useful? Firms offer company stock within DC plans in an effort to enhance economic performance, though evidence is mixed on productivity gains from stock ownership. We demonstrate that concentrated stock positions arise most often in larger firms' DC plans where sponsors direct employer contributions and restrict diversification. Stock concentration also arises because participants systematically underestimate the risk of employer stock and over-rely on its past performance in making investment decisions. In a retirement system with concentrated stock positions, there will always be some participants who forfeit DC plan savings to firm bankruptcy. Encouraging plan diversification mitigates this risk, but it could also induce some companies to redirect plan contributions to other forms of stock compensation or to replace stock contributions with cash compensation. We conclude by describing policy tools that might be used to encourage diversification and discuss conditions for their effective implementation.

Suggested Citation

Mitchell, Olivia S. and Utkus, Stephen P., The Role of Company Stock in Defined Contribution Plans (October 2002). NBER Working Paper No. w9250. Available at SSRN: https://ssrn.com/abstract=336366

Olivia S. Mitchell (Contact Author)

University of Pennsylvania - The Wharton School ( email )

Philadelphia, PA 19104-6365
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

No contact information is available for Stephen P. Utkus

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