Art and Science

Evaluating target-date funds
L to R: Lawler and Tyler

Target-date portfolios continue to grow in popularity as a streamlined, diversified investment option for retirement plan participants and an important part of a retirement plan lineup. Target-date funds (TDFs) now hold $676 billion in assets and are projected to keep growing1. However, with increased use comes increased scrutiny over how plan sponsors and their financial professionals compare, select and monitor TDFs.

With no two target-date series alike and a lack of standard benchmarks, evaluating TDFs is both an art and a science. Jeff Tyler, portfolio manager for Principal Management Corporation, and Julia Lawler, senior vice president and chief investment officer (CIO) of retirement and investment services at the Principal Financial Group®, discussed the opportunity for financial professionals to provide value by using the Department of Labor (DOL)’s recent “Target Date Retirement Funds—Tips for ERISA Plan Fiduciaries” as a common framework for evaluating these funds, with Alison Cooke Mintzer, editor-in-chief of PLANADVISER.

PA: Why is comparing and selecting target-date funds such a hot topic?

Tyler: The sheer size of TDF assets alone draws attention. Target-date strategies hold nearly half of 401(k) contributions and are projected to capture more than 63 percent by the year 20182.

Lawler: Comparing and selecting target-date series and meeting the ongoing fiduciary requirement to monitor TDFs is a complex undertaking. The DOL is suggesting plan sponsors and their financial professionals need to do more homework. The tips can help them evaluate TDFs more objectively.

PA: Let’s dig in to the DOL’s target-date tips. What is important about the first tip, which stresses knowing whether a TDF’s glide path is “to” or “through” retirement?

Tyler: “To” vs. “through” refers to whether the asset mix is managed only to the target date or through retirement.

A to provider generally manages the glide path to reach its most conservative point at the target date, the approximate date a person retires, then remains static. We use a through glide path, in which the asset mix continues to be adjusted to account for shortfall, inflation and longevity risk on one side, and market risk on the other side. Through funds also attempt to take into account the change in spending habits during retirement.

Lawler: It is important to understand what that means and how it aligns with plan demographics, but it may be a disservice to focus solely on to vs. through. Financial professionals can educate clients about the amount and types of underlying equity and fixed-income exposure at all points along the glide path, particularly at the retirement date, instead of taking to vs. through at face value only.

PA: Tip two prompts consideration of custom or proprietary vs. non-proprietary TDFs. What is the key point of this tip?

Tyler: The point is about diversification of the underlying managers. We believe it can be limiting if all of the underlying investments in a TDF are managed by one manager. That presumes that one asset manager does well at all disciplines.

Lawler: Most financial professionals would likely never suggest a retirement plan client populate the investment lineup with options managed by only one firm; why would they not have the same diversification expectation of the assets of a TDF?

Financial professionals can add value by looking below the glide path to consider the expertise of and exposure to the underlying managers, and then present the facts to clients.

1 Strategic Insights Lifecycle Mutual Fund Data 2Q2014 Report, Mutual Fund market size as of 6/30/2014.

2 Source: Target-Date Strategies Will Capture 65% of 401k Contributions by 2018, March 26, 2014,