Evaluating, Selecting and Monitoring Target ... - ucs-edu.net · 401(k) Advisors. Measurably Different™ Target Date Fund Defined A fund (typically a mutual fund, collective trust

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Measurably Different™

Evaluating, Selecting and Monitoring Target Date Fund Offerings

presented by

Mike FalconeManaging Director, East [email protected]

401(k) Advisors. Measurably Different™

Agenda

Target date funds defined

Target date fund statistics

Key terms and concepts

Identifying the right target date structure for your plan

Case study – bringing target date fund selection all together

1401k‐2012‐32


Target Date Fund Defined

A fund (typically a mutual fund, collective trust or separate account) which will automatically reduces its risk by lowering its exposure to equities and increasing its exposure to fixed income securities as the fund approaches its target date– “To retirement” target date funds (TDFs) maintain a static asset

allocation once the fund reaches its target date

– “Through retirement” TDFs continue to reduce their risk even after the fund reaches its target date

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TDFs Are Increasing in Popularity

Note: Components may not add to the total because of rounding.Source: Investment Company Institute

• $382 billion in target date funds as of 6/30/2011• $9 billion in target date funds as of 12/31/2000

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TDFs Are Increasing in Utilization

TDFs are offered by about 70% of DC plans

TDFs make up the largest percentage of Qualified Default Investment Alternative (QDIA) in 401(k) plans

TDF assets are approaching $400 billion; greater that 2X the asset level at the end of 2008– Account for 17% of assets in plans that offer them

– Predicted to grow to 70% of all DC assets by 2020

Source: Morningstar, Ibbotson, Janus Capital Group, Asset International, Inc.

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Still Some Confusion in the Market

A recent survey showed that half of all plan sponsors are “not at all concerned” about litigation regarding TDF glide paths, yet more that 50% are not sure what their fund’s glide path is

Despite the glide path uncertainty, nearly 70% of plan sponsors are confident their employees understand the structure and intent of TDFs

Most participants believe the “target date” is the date where the portfolio is at its most conservative allocation

Some participants believe a TDF “guarantees” a retirement income

Source: Ibbottson, Janus Capital Group, Asset International, Inc.

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Increased Scrutiny

Heightened SEC and DOL attention after 2008 due to wide variations in returns among TDFs, especially those at or near their target date – 2010 TDF returns ranged from -3% to -41%.

Are all 2020 TDFs (or 2030, 2040, 2050, etc.) really the same in terms of risk and expected return? (hint: No) – the glide path within a single fund family can change significantly over time.

Plan sponsor fiduciaries need to have an ongoing due diligence process for selecting and monitoring their TDFs (and be able to document that process), yet nearly 40% of plans that have both Target Date funds and an Investment Policy Statement (IPS) do not include language in the IPS pertaining to TDFs and their underlying investments.

Source: Ibbottson, Janus Capital Group, Asset International, Inc.

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Questions You Need to Be Able to Answer

What is the glide path?

At what point (or age) does a static allocation begin?

What asset classes are represented in the portfolio?

What are the assumptions about longevity, income replacement and market risk?

Is inflation being addressed?

What is your process for evaluating fund performance?

What are the fees and how do they compare to alternatives?

What do you know about the organization managing the TDF –People, Process, Philosophy?

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Key Terms and Concepts

Equity Glide Path – beginning and ending exposure to equity and process for managing the “roll down”.

Roll Down Strategy – ages at which roll down begins and ends

Equity Exposure at Age 65 – percentage allocation to equities at the point the fund reaches its Target Date

Investment Philosophy – is the fund actively or passively managed, or both

Investment Type – is the fund made up of proprietary funds, outside funds and/or individual securities

Asset Class Coverage – does the fund invest beyond the core asset classes (i.e., - what exposure, if any, is there to TIPS, REITs, Emerging Markets Equity, High Yield, Emerging Markets Debt, Commodities, International Fixed Income, etc.)

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Glide Path Types

Conservative– Generally incorporates a “To” approach

Glide Path rolls down to a conservative allocation at retirement date(typically age 65)

Lower equity weighting at age 65, with more conservative orientation(< 40% equities or equity-like assets)

Aggressive– Generally incorporates a “Through” approach

Glide Path rolls down to a conservative allocation at life expectancy(typically age 85)

Heavily weighted towards equities at age 65(> 40% equities or equity-like assets)

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Glide Path Decision Tree

Aggressive

– Participants stay in plan till life expectancy (age 85)

– Participants willing to tolerate higher volatility at and through retirement

– Participants expect changing allocations/volatility throughout retirement

– Most participants are risk takers

Conservative

– Participants leave plan at or shortly after retirement (age 65)

– Participants want lower volatility at and through retirement

– Participants expect consistent allocations/volatility throughout retirement

– Most participants are risk averse

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Glide Paths Are Not Equal

Source: Morningstar

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No Two Fund Series Are Alike

Target Date Matrix

Target Date Fund Equity Glide Path Roll Down Approx. Equity Exposure at Age 65

Active/ Passive

Starting Eq Ending Eq Begin End

American Century Livestrong 85% 45% Age 25 Age 65 45% Active

Dow Jones Target 90% 20% Age 35 Age 75 30% Passive

Fidelity Freedom Funds 90% 20% Age 25 Age 75 50%Active with mild

exposure to equity index

JPMorgan Smart Retirement 85% 35% Age 40 Age 65 33% Active

PIMCO RealRetirement 55% 15% Age 45 Age 60 15% Active

Principal Lifetime 90% 30% Age 25 Age 80 50% Active

T. Rowe Price Retirement 90% 20% Age 40 Age 95 55%Active with mild

exposure to equity index

Vanguard Target Retirement 90% 30% Age 40 Age 73 50% Passive

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Investment Philosophy

Passive management– Track common market benchmarks (S&P 500)

– Lower investment cost to participants

– Useful because they maintain the integrity of glide path

Active management– Opportunity for out-performance of market benchmarks

– Greater level of due diligence needed

Combination of passive/active– Incorporate benefits of both approaches

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Do You Have the Right TDF Series for Your Plan?

Key factors to consider:– Totality of overall retirement program

– Plan demographics

– Current investment behavior

– Economics of the plan

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Case Study

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Client Background

Large provider of communications, engineering and integration solutions to defense, commercial and government industries

Retirement plans:– Cash balance pension plan

– Tax-deferred savings plan

Goals & objectives:– Satisfy due diligence

– Determine if current TDF series is best fit for plan and participants

– Establish process for ongoing monitoring

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Overall Retirement Program Statistics

Cash balance pension plan:– Average balance of $80,000 for all participants

– For those age 50 or over, average balance of $125,000

Tax-deferred savings plan:– Total assets of $375 million

36% of assets invested in TDFs (proprietary offering of plan’s recordkeeper)

15% of assets in stable value fund

– Average balance over $90,000 for all participants

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Savings Plan Demographics

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Assets Percent of Total

Total Assets $374,583,602 100.0%

Active Equity $140,316,048 37.5%

Passive Equity $17,817,615 4.8%

Active Fixed Income $15,075,343 4.0%

Passive Fixed Income $11,899,008 3.2%

Stable Value $55,531,218 14.8%

Total TDF Assets $133,944,370 35.8%


Savings Plan Demographics

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Age 50-54 50-59 60-64 65 & Over All

Fund Act Term Act Term Act Term Act Term Act Term

2030 12 3 7 0 4 0 1 0 24 3

2025 233 139 11 2 8 2 0 1 252 144

2020 105 59 503 91 12 2 3 0 286 152

2015 10 1 65 36 120 50 11 2 206 89

2010 4 2 5 4 52 30 42 35 103 71

2005 3 0 0 0 1 0 28 21 32 21

2000 3 0 2 1 2 1 13 15 20 17

Inc 2 0 5 1 0 0 3 5 10 6

Total 372 204 261 135 199 85 101 79 933 503


Savings Plan Economics

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Assets Revenue Sharing % Revenue Sharing $

Active Equity $140,316,048 0.11% $159,193

Passive Equity $17,817,615 0.00% $0

Active Fixed Income $15,075,343 0.00% $0

Passive Fixed Income $11,899,008 0.00% $0

Stable Value $55,531,218 0.05% $27,766

TDFs $133,944,370 0.34% $451,830

Total Assets $374,583,602 0.17% $638,789

Revenue Requirement 0.11% $412,042

Surplus/(Shortfall) 0.06% $226,747


Observations

With existence of Cash Balance Plan, many participants may view the savings plan as being more of a supplemental, rather than major, source of income

Current investment behavior in savings plan appears to indicate participants have a greater willingness to tolerate more volatility, which might suggest a more aggressive strategy with respect to TDF solution

Many former employees, including those at or beyond Normal Retirement Date, continue to invest in Savings Plan and in TDFs, which might suggest a “Through Retirement” strategy

Current plan economics provide a lot of flexibility to look at various solutions (i.e., - retail vs. institutional, mutual fund vs. separate account, etc.)

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Target Date Fund Evaluation Process

Identified short list of TDF providers to include in evaluation– One “To Retirement”

– Three “Through Retirement” (including incumbent)

Distributed Request-for-Information (RFI)

Conducted preliminary analysis, evaluating performance by:– Fund series

– Target date

– Risk category

Invited providers in to make formal presentations to committee

Conducted follow-up analysis and made recommendation

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Performance by Fund Series

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PRODUCT STRATEGY 5-YR RETURNS Q1-2011 SCORE

ABC Income Conservative 4.25% 6*

ABC 2010 Moderate 4.18% 7*

ABC 2020 Moderate Aggressive 3.54% 7*

ABC 2030 Aggressive 2.83% 7*



XYZ Income Moderate Conservative 5.12% 9

XYZ 2010 Moderate 4.86% 9

XYZ 2020 Moderate Aggressive 4.57% 10

XYZ 2030 Aggressive 4.23% 10



Performance by Target Date

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GHI 2020 Moderate 4.88% 8

MNO 2020 Moderate Aggressive 4.27% 10




GHI 2030 Moderate Aggressive 4.28% 8




Performance by Risk Profile

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ABC 2010 Moderate 4.18% 7*

GHI 2020 Moderate 4.88% 8

MNO 2010 Moderate 4.50% 7

XYZ 2010 Moderate 4.86% 9



GHI 2030 Moderate Aggressive 4.28% 8





Recommendation: XYZ Funds

Most appropriate glide path match – “Through retirement” – given plan demographics and behavior

Most closely aligned from a fund mapping standpoint

Most consistent risk-adjusted performance

Stability of investment management team

Significant number of ABC’s clients (22) currently using XYZ TDFs – XYZ has vast experience working with ABC to implement, communicate and carry out change

Pricing flexibility:– Revenue neutral when compared to moving to less expensive share

class of incumbent provider’s funds

– Opportunity to move to Trust version of XYZ TDFs in future

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Implementation Timeline

Fund changes finalized: early-mid July

Notify ABC of changes: mid-late July

Work with ABC and XYZ to develop communication strategy for target date fund switch: early-mid August

Communication to participants: mid-late August

New fund lineup in place: October 1st

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Conclusions / Action Steps

Target date funds will continue to gather more assets and grow in importance

Establish and follow a prudent process for understanding, evaluating, selecting and monitoring the performance of your plan’s target date fund solution just as you would for all other funds in your plan’s lineup

Do not just “settle” for the house brand, there are alternatives:– Less expensive share classes of current offering

– TDF solutions managed by someone other than your provider

– Custom solutions – using funds in your core lineup

AND document your process!

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Additional Reading

“Asset Allocation Models as QDIAs” (Reish & Reicher)– http://www.reish.com/publications/article_detail.cfm?ARTICLEID=872

“Are Single-Manager Target-Date Funds Risky For Large Plan Fiduciaries?” (Alliance Bernstein)

– http://www.dol.gov/ebsa/pdf/TDFSupp4.pdf

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Thank You!

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Mike FalconeManaging Director, East Region

[email protected]

401k‐2012‐32

Documents

Evaluating, Selecting and Monitoring Target ... - ucs-edu.net · 401(k) Advisors. Measurably Different™ Target Date Fund Defined A fund (typically a mutual fund, collective trust