Speaking on a panel at the 401(k) SUMMIT in San Diego, Chris Bidwell, an adviser with Smith Barney, told the audience that “we as advisers have to be experts on these funds. The burden is on us to recommend and know the funds,’ he said. Unfortunately, this is more complicated than it is with more traditional funds, panelists speaking at the “Pre-Diversified Portfolios: Evaluating the Options’ said.
Jeff Knight, with Putnam Investments, suggested that plans with knowledgeable investors might find that static lifestyle funds are a good choice because they fit better into a more detailed plan in an overall portfolio. However, for those people who are not going to be creating a broad-based diversified portfolio on their own, and know that they won’t be paying attention to their accounts, target-date funds are the right option, he said.
Asset Allocation Choices
Each fund family offering target date funds has varying policies on how conservative the glide path should be. Putnam’s goal is loss aversion, Knight said, and therefore their funds are very conservative at the retirement date. “Catastrophic loss is totally unacceptable at that stage,’ he said.
However, longevity risk is increased by going into bonds and cash too early at retirement, according to Tom Fontaine with AllianceBernstein. How conservative a participant can afford to be depends on the withdrawal rates because it affects an individual’s ability to handle growth potential, according to Fontaine.
“[You] need to reach a balance between equity and fixed income, because if you put too much equity in, capital markets will eventually snare you’ Bob Boyda with John Hancock Financial Services, said; “it’s really about reaching something that achieves a fixed rate of return.’
Fontaine suggests that advisers can ask different providers how they chose or arrived at their asset allocation strategies to better understand the philosophy behind it and determine whether that philosophy fits with their client’s plan.
After selecting a family and adding those funds to the plan menu, like with all other funds, plan sponsors have a responsibility to monitor those funds, something advisers are usually asked to help with. Although target-risk funds can be compared to each other, ongoing evaluation is more challenging with target-date funds, Fontaine said because the allocation changes and since each fund family uses a different glide path, they cannot be compared to each other. He said advisers should look at the fees, underlying components, and asset allocation and then track the performance over time.
Further, since there is no benchmark, advisers have to create their own. Bidwell said he has been creating a custom benchmark with a sophisticated software program, a very tedious and time-consuming process.
Costs and Fees
There is a wide dispersion in fees between providers, Fontaine said, and advisers should look to understand why fees vary so. Some funds are actively managed while others rely on passive investing and the underlying fund investments also contribute to the cost.
“Cost in the absence of value is just an expense,’ Boyda said. Therefore, when examining traditional mutual funds, fees should be a significant factor, but when evaluating the suite of funds that offer a program for saving and allocation, then it is important to look at the costs in light of the value added, he said. “If the fund contributes 200 or 300 basis points [in return] then is it too expensive?’ If you can demonstrate that people who bought into the process did better than those that didn’t, you win, he said.