The Markets July 27, 2021

Scrutinizing TDFs and Considering Balanced Funds

Both options hold more than a trillion dollars in assets; weighing their relative merits remains an important task for advisers and their clients.
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Art by Jam Dong


The ease of use of target-date funds (TDFs)—for both investors and plan sponsors—has made them the default fund of choice ever since the Pension Protection Act (PPA) of 2006 allowed plan sponsors to use them as their qualified default investment alternative (QDIA).

TDFs had been around for about 13 years before the PPA, but they hadn’t gained much traction with plan sponsors. Their impressive growth post-PPA, however, has come at the expense of other types of QDIA accounts, including balanced funds, which stick to a fixed asset allocation of stocks and bonds for all participants.

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“Target-date funds have become the most common QDIA choice for our plans by a wide margin,” says Greg Quick, director of retirement service for OneAmerica in Indianapolis. “Offering a series of funds geared to each participant’s age and defaulting them automatically by this age has really resonated in the market.”

On the surface, both balanced funds and target-date funds appear happy and healthy, each managing more than a trillion dollars in assets. The robust use of both types of funds reflects higher retirement savings rates overall, sources say, largely driven by factors such as automatic enrollment and auto-escalation of contributions.  

Balanced and Target-Date Fund Asset Growth

Assets in billions of U.S. dollars

Balanced___  Target Date

$1,800

$1,600

$1,400

$1,200

$1,000

$800

$600

$400

$200

$0

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

2019

2020

May 2021

Note: Graph data excludes closed-end funds
Source: ISS MI Simfund

The asset growth in balanced funds has more than doubled in the 15 years since the PPA, while the total assets in TDFs have increased 13-fold. This imbalance is not surprising to many in the industry, given the perceived advantages of target-date funds. Still, with so many participants saving for a retirement date more than 10 years in the future, advisers and sponsors might want to consider whether target-date funds are providing the best solution for all participants.

‘A Big Decision’

“Choosing a QDIA is really a big decision, potentially the biggest decision a plan sponsor committee can make, so you want to make sure you’re doing all your homework and gathering all the facts before you make your decision,” says Kevin Roloff, director of research at Francis Investment Counsel in Pewaukee, Wisconsin.

It is also of paramount importance to monitor the results of this decision, he says, though this does not always happen in practice. Indeed, in a recent research paper, “The Unintended Consequences of Investing for the Long Run: Evidence from Target-Date Funds,” academics say managers of TDFs may even benefit from investors’ set-it-and-forget-it mentality, which prevents them from adequately scrutinizing poorly performing funds.

Of course, many target-date funds are living up to their performance goals, often by embracing high levels of risk for participants with longer time horizons. The same can be said of TDFs with closer retirement dates. These often take more risk than novice investors expect, leading to strong performance during bull markets but raising important questions about what might happen during the next downturn. Balanced funds, given their increased simplicity even compared with target-date funds, are less prone to such issues.

There are other drawbacks to TDFs as well. First, not all participants use target-date funds as they’re intended. A third of participants who had assets in TDFs also allocated money to other investments within their 401(k), according to Vanguard. That could potentially leave those participants with an asset allocation that’s less appropriate for them.

Still, advisers say that in most cases, the advantages of target-date funds outweigh their limitations.

“The preference for target-date funds transcends the traditional performance lens used to compare an asset-weighted TDF to a balanced fund,” says Moustapha Abounadi, head of business strategy, BNY Mellon Investor Solutions. “The perception of the benefits from an overall objective plan design perspective outweighs that potential performance drag highlighted when comparing ex-post the asset-weighted performance.”



2016

2017

2018

2019

2020
Balanced 8.00% 15.20% -4.20% 20.60% 13.90%
Target-Date: In-Retirement 5.20% 8.90% -2.50% 13.60% 10.30%
Target-Date 2000-10 6.20% 11.50% -3.40% 14.70% 10.80%
Target-Date 2011-15 6.50% 12.40% -3.50% 15.60% 11.10%
Target-Date 2016-20
 6.90% 14.40% -4.50% 17.60% 12.40%
Target-Date 2021-25 7.30% 16.10% -5.20% 19.40% 13.60%
Target-Date 2026-30
 7.60% 18.30% -6.10% 21.20% 14.60%
Target-Date 2031-35 8.00% 20.00% -6.90% 23.10% 15.70%
Target-Date 2036-40 8.10% 21.20% -7.60% 24.40% 16.50%
Target-Date 2041-45 8.40% 21.60% -7.90% 25.10% 17.00%
Target-Date 2046-50 8.20% 21.70% -8.00% 25.20% 17.10%
Target-Date 2051-55 8.30% 21.70% -7.90% 25.20% 17.20%
Target-Date 2056-60 8.50% 21.60% -7.80% 25.20% 17.10%
Target-Date 2060+ -
 - -8.00% 25.10% 16.30%

Note: Chart data excludes closed-end funds
Source: ISS MI Simfund

Beating Inertia

A big appeal of target-date funds is that they help participants counteract inertia by rebalancing as investors age, says Ryan Gardner, managing partner and head of defined contribution (DC) at Fiducient Advisors in Windsor, Connecticut.
“Participants end up in funds because they’re defaulted into them, and after that it’s hard to make a decision,” Gardner says. “So, if that default fund is a balanced fund, you have people of all different ages and life cycles in that one fund, and you have to ask whether having one fund with one allocation is the most effective way to save for retirement.”

Roloff says there’s also another reason that many plan sponsors go the target-date route: participant preference.

“We have run a number of participant focus groups on behalf of our clients on this topic, and the overwhelming response has been in favor of target-date funds, further solidifying our preference there,” he adds.

For clients of Putnam Investments, conversations on choosing a QDIA typically focus more on which TDF to choose rather than whether to go with a target-date fund or a balanced fund, says Steve McKay, head of defined contribution investment only (DCIO) at the firm.

To assist with that process, the firm developed a target-date visualizer that helps clients compare a manager’s philosophy and glide path approach. The tool looks not just at the top-performing manager, which can be market dependent, but at each manager’s philosophy and approach to the glide path.
“Then, when you’ve narrowed it down, you look at the risk and performance metrics for target-date managers whose philosophy matches up with the pan sponsor’s,” McKay says.

There are other important factors to consider as well, when choosing between target-date funds, including the fund’s fees; whether it’s an active, passive or blended fund; and whether the glide path runs “to” or “through” retirement. That final consideration is particularly important for plan sponsors that have a large contingent of retirees who remain in plan—or for plan sponsors that want their retirees to keep their assets in the plan.

When a Balanced Fund Makes Sense

Advisers concede that there are certain circumstances in which a balanced fund might be a better QDIA selection for a plan sponsor than a target-date fund. For instance, balanced funds might make sense for employers with a less diverse employee base, for employees who largely have other sources of retirement income such as a pension, or for employees who understand investing and may prefer to take a more active role in their retirement saving.

“For employers with a more homogenous, affluent workforce that isn’t looking to their 401(k) as their main source of retirement income, the balanced fund might be the right choice,” Abounadi says. “In that case, the performance point might be more pertinent and relevant, making the balanced risk approach more appealing.”

For some plan sponsors, a balanced fund is the right choice because the plan already has an existing one that’s performing well, Roloff says.

“We have a few clients where the balanced fund has been the QDIA for a long time and the sponsor has decided not to make the switch after discussing the potential benefits of doing so,” he adds. “In those cases, the balanced fund is a good fit for the plan demographics and the 60/40 split makes sense for the employees in those instances. And the balanced funds are heavily utilized and well-liked by participants.”

Plan sponsors that have a balanced fund as their QDIA might also have a more robust approach to the support they provide to participants making investment choices, McKay says.

“They might have also have a custom target-date solution or a managed account solution that they don’t use as their default option, but they put a lot of resources into ongoing education and advice for associates and participants in the plan,” he says. “So the plan is offering true customization for those participants who want it.”

Understanding Performance

When it comes to selecting the best QDIA for a plan, whether it’s a target-date or a balanced fund, plan sponsors must look for one that best suits their needs and the participant demographics. They’ll also need to evaluate its performance.

That latter task can be a challenge when it comes to target-date funds, which are notoriously difficult to benchmark due to different glide paths and risk levels.

“No two target-date funds are the same,” McKay says. “There are some looking across the universes that can be substantially different in terms of what they do at the beginning of the glide path and at the end. So, more of the conversations now have been on philosophy and approach and how to manage risk along the glide path.”

Looking ahead, Gardner says he expects TDF balances to continue to grow.

“Participants have really gravitated to this idea of selecting one fund and having it be all inclusive, rather than spending time understanding the core options and trying to come up with an allocation that makes sense for them,” he says. “We continue to see the popularity building when it comes to target-date funds.”

Balanced and Target-Date Fund Net Flows

Net new flows in billions of U.S. dollars

Balanced___ Target Date

$100

$80

$60

$40

$20

$0

-$20

-$40

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

2019

2020

YTD

May

2021

Note: Graph data excludes closed-end funds
Source: ISS MI Simfund

Some plan sponsors might work with a fiduciary adviser to select passive target-date funds under the impression that these funds limit their potential fiduciary liability. While that may be true compared with a choice to use an unproven actively managed option, advisers say it’s important for plan sponsors to remember that they’re never completely free from their fiduciary responsibility.

“Yes, the investment manager has fiduciary responsibility, but so does the plan sponsor,” Roloff says. “That’s why it’s important not to rely solely on the performance assessment from the provider and instead seek an evaluation of that provider by an expert adviser.”

Just as TDFs have evolved over the past decade, Gardner says he expects vendors to continue introducing new features and options. For instance, fund managers might create lower share classes for plans of a certain size or introduce more participant education on the decumulation phase of retirement saving.

Practice Management July 13, 2021

How Leaders Are Addressing the Adviser Gender Gap

Although they make up more than half the population, currently less than 20% of financial advisers are women. This raises the question of just what is so unwelcoming about the advisory business.
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Advisor Group announced last week that it would hire Kristen Kimmell as a new executive vice president and head of business development, effective in August.

According to the firm, the appointment is part of a broader strategic plan to recruit more advisers from multiple channels. Kimmell comes from RBC Wealth Management, having spent the past two years there as head of adviser recruiting and field marketing for the company’s U.S. operations.

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In a statement announcing her pending appointment, Advisor Group says Kimmell will spearhead a lasting push to recruit advisers from outside the independent channel, as well as from ensemble and enterprise firms, banks, wirehouse breakaways, and hybrid firms. In the statement, Advisor Group says it is proud to be bringing aboard one of the top female leaders in wealth management recruiting, citing Kimmel’s two decades of experience running various key business units across the RBC organization.

Following the hiring announcement, PLANADVISER spoke directly with Kimmell about her experience in this industry and her hopes and expectations for the new job at Advisor Group. Of course, business development and commercial success will be a constant focus, she explains, but there is also a big opportunity to help address the industry’s longstanding lack of full diversity and inclusion across genders and racial/ethnic groups.

A Forced Reckoning

“Thanks in part to the pandemic, but also due to other forces shaping the adviser industry, I believe we are at a crossroads, and we have a real opportunity to highlight the importance of hiring more diverse candidates,” Kimmell says.

Citing her own experience, Kimmell says there has been a misunderstanding of what it takes to be a financial adviser, such that many people mistakenly feel being an adviser is not “for them.” Add this fact to the broader systemic and cultural hurdles standing in the way of marginalized communities and she says it is clear why the adviser industry is so heavily white and male.

“We have myth-busting to do, quite frankly,” she says. “Working in this industry is not about being a math prodigy or about doing hours and hours of market research every day. It’s about helping your clients identify and pursue goals. It’s about being a good steward. Additionally, we can have flexibility in our working lives, and these careers can involve social responsibility and giving back. This is an important part of the story of being a financial adviser. The fulfilling nature of this career hasn’t always been presented or portrayed very clearly.”

Kimmell says the COVID-19 pandemic has forced a sort of reckoning regarding work-life balance and caregiving. In other words, due to the impacts of various lockdowns and pandemic restrictions, adviser industry leaders have been forced to confront some of the same issues that have prevented many people from working in financial services—challenges in securing child care, a lack of access to reliable transportation, the need to work irregular hours, etc.

“Due to the pandemic, many firms were forced to create a working environment that is much better suited to supporting more diverse people, to support working mothers and caregivers for the elderly, for example,” Kimmell says.

Beyond the barriers of perception, there are practical issues standing in the way of fuller representation. In late April, the Financial Industry Regulatory Authority (FINRA) issued a formal request for comments from broker/dealers (B/Ds) and financial advisers on supporting diversity, equity and inclusion (DE&I) in the financial services industry. The vast majority of the comments agreed that regulators can and should act to address this matter.

Many commenters cited the challenging and often convoluted licensing process required to be a practicing adviser as a serious barrier to new entrants—especially those who have not had prior financial services industry experience or a formal business education. Suggested solutions from the industry include eliminating the forced 180-day waiting period triggered by a third failed “top off” examination, directly involving community colleges in the licensing process, and making remote services a permanent feature of FINRA’s testing approach, even after the COVID-19 pandemic ends.

“All this stuff is starting to sink in, slowly,” Kimmell says. “We have a long way to go, but we are getting this discussion out there. I think there is pretty broad agreement that we can’t go back to where we were at the start of 2020. The pandemic has forced us to take a hard look in the mirror. Change is difficult in an industry like this. It may not happen so rapidly, but we have to push it forward.”

Asked for her view on what role compensation issues play in this discussion, Kimmell says the way people are payed as they enter a new career certainly matters, but she sees this as just one of many interrelated issues.

“I think the compensation structure issue is real, but the lack of representation is about much more than this single issue,” she explains. “If that were the one single barrier, we would have figured it out by now, quite honestly. Again, it comes back to educating people and letting them truly understand what this role is and what this industry does—and then truly welcoming them.”

Insights From the Data

In order to help detail and rectify the gender imbalance in the advisory industry, Carson Group recently partnered with Hidden Insights Group on a study to identify the biggest challenges women face in choosing a career as a financial adviser. The firms note that although women make up more than half the population, currently less than 20% of financial advisers are women. They also say participants in the quantitative and qualitative survey represented an elite group of female wealth advisers and financial planners from across the country, most with more than a decade of professional experience and more than 50 clients.

Teri Shepherd, co-president of Carson Group, says one of the main lessons the organizations learned through the research is that women prefer to work in team-first environments—as part of a functional structure that supports and highlights each member of the team for the specialties and skill sets she brings to the client experience.

“This stands in contrast to the more traditional practice we’ve seen for decades, where a single adviser, primarily male, is solely spearheading the direction of the firm,” Shepherd says.

Nearly 60% of participants cited “firm culture and leadership” as their top hurdle when considering joining the industry. At the same time, many say their efforts to balance the needs of their career and family have led to the perception that they are less committed or engaged than their male counterparts.

Echoing a report published in June by the financial services employment equity advocacy group WIPN, Carson Group says 55% of respondents feel mentoring and coaching were critical to their development. By the same token, female advisers specifically called out the need for enhanced training programs that focus on relationship building and financial planning.

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