TDF Assets Fell 14% in ‘22, but Inflows Stayed Strong

Market depreciation drove a roughly 14% drop in target-date-fund assets in 2022 to $2.82 trillion, according to data released Tuesday by Morningstar.

The decline came off a record year for TDFs in 2021, when the investment vehicles popular in retirement plans hit a record high $3.27 trillion, Morningstar stated in its annual report on target-date strategies.

Despite the market challenges, net inflows for TDFs remained strong at $153 billion for the year, down from $170 billion in 2021, according to Morningstar. While down on the year, that performance was far better than the broader universe of mutual funds and ETFs, which had net outflows of $370 billion, the first year with new outflows since Morningstar started tracking the data in 1993.

The inflows to TDFs continued even as their broad diversification was tested in 2022, with defensive assets—such as investment-grade bonds and Treasury inflation-protected securities—suffered losses due to interest-rate hikes by the Federal Reserve, Morningstar noted.

“2022 was a bit of a difficult market,” says Megan Pacholok, senior manager research analyst at Morningstar Research Services. “We did see outflows when you are measuring the total ETF and mutual-fund universe, so to see continued inflows into TDFs shows that investors are keeping the course.”

CITs Dominate

Another key trend was a continued push into collective investment trust TDFs, which are only available within retirement savings plans and generally offer lower fees, Pacholok notes. About $121 billion—or 79% of all inflows—went into CITs, putting the investment vehicle on pace to overtake mutual funds as the most popular target-date vehicle in the next two years.

The generally low fees for CITs have pushed them to make up 47% of all target-date-strategy assets as of the end of 2022, according to the report. For large plan sponsors, the pooled investment vehicles may even be offered at an even lower fee threshold, according to Pacholok.

“If you are a large plan sponsor and you are seeing some of these TDFs are already at a low price tag, and you can get an even better deal if you choose a CIT, who is not going to go for that?” she says.

Fees also matter across all TDF offerings, Pacholok says, noting that the two cheapest quintiles of target-date share classes drew $60 billion in 2022, and the three most expensive quintiles posted $28.5 billion in outflows.

Some of the lower-fee attraction is attributable to lawsuits against plan sponsors that target TDF strategies in excessive-fee cases, Pacholok notes. More recently, however, the researcher has seen a flurry of legal complaints focused on performance, meaning plan sponsors may start shifting toward performance-chasing, a tactic Pacholok says could be dangerous for investors in the long run.

“Just because it’s done well one year doesn’t mean it’s going to do well the next year,” Pacholok says. “Past performance is not an indicator of future performance.”

ESG Opportunity

The Morningstar report noted the potential for environmental, social and governance target-date series has broadened after the Department of Labor’s rule to allow ESG strategies as a qualified default investment option survived a Congressional attempt to remove it, according to Morningstar.

Pacholok says that, while she is skeptical of widespread uptake, seeing ESG-focused TDF options come to market from players like Putnam Investments this year—joining earlier movers such as BlackRock—makes her anticipate others joining in.

“I think it’s something we should keep an eye out for, because it has potential to grow,” she says. “But if you’re a plan sponsor, I wouldn’t imagine that you would want to select a series, then have to switch out in a year. … They are looking for more of a consistent offering that they can keep their investors in.”

In terms of fund providers, Vanguard Target Retirement collected the most net new money in 2022 when accounting for both mutual fund and CIT flows. At the end of 2022, 51% of Vanguard’s target-date assets were in CITs, marking the first time they surpassed the mutual-fund version at Vanguard, Morningstar said.

American Funds Target Date Retirement saw the most inflows for target-date mutual funds. The popularity for the actively-managed mutual fund continued due to “strong long-term performance and competitive fees,” while other active-based target-date strategies struggled to gain assets due to generally higher fees, according to Morningstar.

The research showed that a handful of asset managers still dominate the target-date market. The top five providers are, in order: Vanguard (36%), Fidelity Investments (14%), T. Rowe Price (11%), BackRock (9%) and American Funds (8%).