The Markets February 4, 2016

Beware of ‘Partial’ TDF Users

Even otherwise knowledgeable users of target-date funds seem not to fully understand the diversification benefits of TDFs, leading to the harmful behavior of “partial TDF use.”
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A recent report from Voya Investment Management contains a trove of fresh insights into the behaviors and preferences of target-date fund (TDF) investors.

According to Susan Viston, client portfolio manager at Voya Investment Management in New York, there is a lot for retirement plan advisers and sponsors to feel good about in the report, but also a few causes for concern.

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First the good news: “One thing that is new here in 2016 that is quite interesting is that participants are really getting more savvy about diversification,” Viston tells PLANADVISER. “They have overwhelmingly told us they prefer funds that contain a mix of active and passive investment strategies. At the same time, only small groups tell us they believe only all-active or all-passive is the most appropriate approach to retirement investing.”

The question is whether this stated interest in active and passive going together implies a deeper understanding of what diversification really is. “I think the answer is yes, absolutely,” Viston continues. “We have now  found in all three updates of this survey that TDF users are increasingly expressing an interest in not only having a broad range of asset classes and even a mix of active and passive—but on top of this they also strongly prefer a multi-manager approach to the design. This just seems more reasonable to them than relying on a single manager to deliver top-quality service across all asset classes.”

For all the positive behavioral improvements measured by Voya, Viston warns there are some persistent challenges. For example, less than one-sixth of TDF-using respondents are putting 100% of their contributions into their retirement plan’s TDF.

“The mean value of the portion of salary deferral going to the TDF was just 47% of contributions,” Viston notes. “Participants may have learned not to put all their eggs into one basket, and they understand TDFs are an important way for unsophisticated investors to achieve better diversification, but they don’t realize that TDFs were designed to offer a well-diversified portfolio in a single allocation. It’s not too hard to imagine how an individual might damage their retirement outlook because of these types of behaviors.”

NEXT: Partial  TDF users are at risk 

So-called “partial” TDF usage has been associated with greater levels of risk and poorer outcomes for participants, Viston explains. In contrast to those putting all (or nearly all) of their retirement assets into a single TDF, partial target-date fund participants had “significantly lower returns,” Voya’s data shows.

“Specifically, participants in all age ranges who invested at least 95% of their savings in TDFs exhibited an average difference of 2.44%, net of fees,” Viston observes. “Deeper education about TDF diversification could prompt participants to reduce the number of their non-TDF investments and perhaps help deliver better investment outcomes.”

Voya’s report goes on to suggest that, as participants are becoming more savvy toward TDFs, so, too, are their plan sponsoring employers.

“In this cut of the survey, we are clearly starting to see at the mega end of the market a pretty big shift towards custom target-date solutions, which has a lot to do with the fact that plan sponsors want to use best-in-class managers across asset classes,” Viston says. “The changes are happening even more quickly because of the large proportion of assets that are now going into target-date funds.”

Because of that, the number of target-date managers that incorporate open architecture has increased and is still increasing, Viston says. This should be a lasting area of industry development and potential new approaches to TDF investing for advisers, sponsors and participants. 

The report predicts TDFs have a bright future tied to their user friendliness and ability to breed retirement confidence: “We increasingly see a confidence gap opening up here, between TDF users and non-TDF users,” Viston says. “In this latest edition of the study, we see 63% of users of TDFs feel confident they can meet their long-term investing goals, up 10 percentage points from the 2011 version of the study and compared with 48% of non-users.

“It’s a very striking difference between the TDF and non-TDF approach,” she concludes. “What we have found, too, is that TDF users demonstrate other success-driving behaviors. For example, they have a median deferral rate that is a full 2% higher per year than non-users. Some other telling numbers include that 28% of TDF users are at an 11% salary deferral or higher, versus only 14% of non-users reaching this level.” 

Data & Research February 4, 2016

401(k) Investors Should Stick with Equities During Market Volatility

An analysis by Fidelity indicates 401(k) investors who stuck with equity allocations after the 2008 financial crisis fared better than those who didn’t.
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The recent market volatility drove a record number of people to seek guidance from Fidelity Investments about the impact of market changes on their account balance and steps they should consider.

In early January, Fidelity responded to six million customer contacts in a single day, one of the busiest days on record.

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Trying to move in and out of the market can hurt an investor’s long-term retirement savings, Fidelity says. The firm examined 401(k) investor behavior between 2008 and 2015, and compared people who continued to invest in equities during this period with those who dropped to 0% equity in their 401(k). Assuming the investors started with a balance of $10,000, the analysis showed that investors who went to zero equities saw their 401(k) balances grow by 74% to $17,360, while those who kept a portion of stocks in their 401(k) saw their balance grow almost 150% to $24,800.

“Today’s retirement savers have constant access to detailed market and financial data, which can be unnerving during periods of economic uncertainty and make many investors feel like they have to take action,” says Doug Fisher, senior vice president, Fidelity Investments. “While we understand that it may be tempting to react to recent market volatility, Fidelity’s guidance is to focus on a sound, long-term retirement savings plan. The market will have many peaks and valleys, so having a plan and staying on course puts you in the best position to achieve your financial goals.”

NEXT: 401(k) contributions, managed account use increased year over year

According to Fidelity’s analysis, 401(k) and IRA account balances increased in Q4 2015, but are down year over year. After decreasing in Q3 2015 due to market volatility ($84,400), average 401(k) account balances recovered in Q4 2015 ($87,900), but are still below the averages from Q4 2014 ($91,300).

Both 401(k) and IRA account holders continued to contribute to their retirement savings accounts. The average IRA contribution was $1,500 in Q4 2015, up from $1,260 in Q3 but down from $1,660 in Q4 2014. The average total 401(k) contribution, which includes both employee and employer contributions, was $2,540 in Q4 2015, down slightly from $2,610 in Q3 but up from $2,440 in Q4 2014. During 2015, employers contributed an average of $3,610 to 401(k) accounts through profit sharing or company match.

An increasing percentage of retirement assets are in target-date funds or managed accounts. As of the end of Q4 2015, 25% of total 401(k) assets on Fidelity’s platform were held in target-date funds, and two-thirds (67%) of Fidelity 401(k) account holders had at least some of their savings in a target-date fund. Among Millennials, 63% had all of their retirement assets in a target-date fund at the end of Q4.

In addition, the use of Fidelity’s professionally-managed account portfolios continued to increase in 2015, growing by 19% since 2014.

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