THE ESSENTIAL GUIDE TO TARGET DATE FUNDS
THE ESSENTIAL GUIDE TO TARGET DATE FUNDS
ALL TARGET DATE FUNDS ARE NOT CREATED EQUAL...
Target date funds are a revolutionary idea: A single investment that evolves over time according to the changing needs of participants. The power of that idea can be seen in their rapid growth and status as a Qualified Default Investment Alternative.
But as plan sponsors embraced target date funds, they often didn't recognize how dramatically funds--even those sharing the same target date--can differ. Nor did they recognize the significant impact those differences could have on whether participants can reach their retirement savings goals.
So, yes, all target date funds are not created equal--and with the proliferation of funds and customization options, the differences are more profound than ever. But that's good. It means you have choices, provided you understand the differences and can use them to your advantage. Choice, however, brings risk, leaving you with an increased fiduciary responsibility to make sure the fund you choose aligns with your plan's goals and objectives.
This guide is designed to help you understand the bottom line on target date funds. There are many approaches to delivering retirement outcomes. What's essential is that you understand what you're getting and whether or not it delivers what you want to your participants.
1 Know Your Destination YOUR OBJECTIVE SETS THE COURSE
THE BOTTOM
LINE
Imagine a 45-year-old participant. She's in midcareer and has her 401(k) assets in a 2035 target date fund. Now imagine explaining to her what she should expect as the calendar zeros in on her target year. Would she be more concerned with protecting what she's earned, or should she still be focused on maximizing her savings through investing? Or is it somewhere in between?
As defined contribution professionals, we think of retirement in terms of economic forecasts, market access, and risk. But for participants, it is much more emotional. Your target date fund's objective will have a major impact on everything from how secure participants feel as they approach retirement, to how much they can spend once they get there.
Think about what you want for your participants and define your objective explicitly. Do you want less risk exposure (especially nearing retirement) to preserve savings? Or is your goal to help them maximize every dollar invested? Capture your plan's objective in the Investment Policy Statement and work with your target date provider to ensure your fund matches your vision.
Different Objectives, Different Results
If every target date fund with the same target year had the same objective, their performance would be similar. But as the chart shows, that's not the case. The spread between the highest and lowest returns--reaching its peak in 2008 and 2009--is clear evidence that not all target date funds are created equal.
2010 TARGET DATE FUND RETURN SPREADS
50%
ANUAL RETURN
31.4
25
23.75
4.11 3.09
11.76 11.57
14.42 6.25
9.53
14.47 6.30
0
-2.22
6.10
6.27
7.34 5.43
0.39 -4.34
2.84
2.90 -9.11
-2.44
-9.23
-25
-50 2000 5
Source: Morningstar.
2001 6
2002 7
-41.22
2003 2004 2005 2006 2007 11 15 21 27 33
YEAR/NUMBER OF FUNDS
2008 39
2009 43
2010 43
2011 44
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