TDFs See Significant Growth in 401(k)s

Assets in target-date funds (TDFs) grew to $380 billion by year-end 2011 and are targeted to reach $1.1 trillion in 2016.
According to research conducted by Cerulli Associates, as a result of the growth, TDFs will comprise 10% of 401(k) allocation, up from 2% in 2002.

Most proprietary TDFs remain dominated by defined contribution (DC) plan recordkeepers. However, sponsors of large- and mega-DC plans (those with $50 million or more in assets under administration) are piloting revolutionary shifts in TDF structure, Cerulli noted.

“As a result of a slow movement toward changing target-date structure, opportunity once closed to asset managers, could begin to widen as retirement plans across all segments reevaluate their target-date fund offerings and dominant proprietary funds of the past give way to customizable and passive solutions,” said Alessandra Hobler, an analyst at Cerulli Associates and co-author of the research.

Hobler contends that as far as the participant is concerned, the changes to TDFs will be minimal and accumulator investors will continue to be offered target dates as a QDIA. The simplicity and automation plan participants appreciate will continue to be provided to them, even as TDFs evolve. The difference will lie in how the funds are structured, and that will depend upon the size of the DC plan. The change in TDF structure will be a result of the different needs brought forth by the various differentials in DC plan size.Plan sponsors and advisers in the small- and mid-sized retirement plan market (plans with between $1 million and $50 million in assets) most often have cost and resource challenges to making plan advancements such as open architecture. As a result of their lack of scale, small plans may favor reduction of expenses through index funds or bundled providers, as they do not have the asset base to produce economies of scale. The increased transparency and reduction in fund expenses combined with simplified participant communication could further adoption of index TDFs particularly in the small- and mid-sized plan markets. In addition to eliminating concerns around expenses, a passive solution also eliminates fiduciary concerns around monitoring underlying funds. Since passive target-date funds follow an index, conflicts between core-lineups and target-date funds would be dispelled.

"Index target-dates in DC plans are becoming a larger percentage of total DC target-date flows and have seen an increase in flows over the past five years," reports Hobler. "In 2005, these funds were actually in outflows, representing -0.1% of total DC flows. However during the course of five years, DC index target-date funds have grown to represent 6.3% of total DC flows."

The large and mega retirement plan markets (plans with greater than $50 million in assets) function on a significantly more institutional base than the small- and mid-sized plan markets. Due to their institutional structure and significant asset totals, sponsors of large and mega plans have found that they have the scale to provide custom target-date funds. Differing significantly from the small- and mid-sized plan market, these plans can leverage existing investment teams and consultants to create custom glidepaths and monitor underlying funds.

 "Asset managers who have significant business in the large and mega plans in terms of investment-only assets could benefit from the opening of target-date funds in this space," according to Hobler.

Additional findings from the report include:

•  Approximately $110 billion of the $323 billion of DC plan dollars that rolled over in 2010 will go to self-directed IRAs, while the majority, or $211 billion, will be adviser-directed.

•  Fifty-eight percent of households do not have a retirement income plan in place five-to-10 years from retirement. That number improves to 46% within five years of retirement. Still, nearly half of all households do not have a retirement income plan in place as they approach retirement.

These findings were published from The Cerulli Edge: Retirement Edition, 1Q 2012 issue.