In a “set it and forget it” world, target date funds (TDFs) for defined contribution plans seem like a perfect solution. With an almost $800 billion in DC assets and an estimated +70% of new contributions flowing into them, it seems like TDFs are the answer. But is there a danger?
The Street details some of the challenges for the growing number of DC participants using TDFs. Shifting from a defined benefit (DB) to a DC world requires participant engagement if not in the accumulation stage but certainly when people retire and have to figure out how to make the money last. Though 80% of the benefit can be realized through the auto or “Ideal Plan”, not trying to engage participants to take an active role in their financial health through their DC plan is a missed opportunity which is why so many advisors and employers are still focused on financial wellness. TDFs can give investors the false impression that they do not need to be engaged.
Assets in TDFs rose after the 2006 Pension Protection Act made it safe for them to be used as the default investment option or QDIA (qualified default investment alternative). And though prices have dropped, plan sponsors still do not understand the differences between selecting and monitoring TDFs compared with other investments. There are vast differences between TDFs that target the same date for retirement. And though record keepers might offer better pricing if the plan uses their proprietary TDF, plan sponsors have to be extra careful to separately benchmark the record keeping services and TDFs. Additionally, putting all investors born within five years of each other in the same portfolio seems contrary to a world going to more customization.
So while TDFs are a great solution, it’s important to realize they are a stop along the way, not the destination – putting investors into TDFs is the first step toward financial health, not the end goal. And engagement along with good plan decision and professional managed investments are ingredients for success which may be a difficult message in a “set it and forget it” world.
