Tide Is Shifting Toward Custom TDFs

Of those plan sponsors already offering target-date funds, 12% currently use custom funds rather than proprietary or prepackaged options, according to recently published poll results from SEI. The poll suggests that the use of custom target-date funds is rising as more than one-third (37%) of those surveyed said their organization is likely or somewhat likely to implement or revise custom target-date solutions in the next 18 months.

Department of Labor (DOL) guidance issued last year suggested that plan sponsors offering proprietary or prepackaged target-date funds should consider custom or nonproprietary options (see “EBSA Offers Tips for Selecting TDFs”).

“While there wasn’t a noticeable immediate response to the Department of Labor’s guidance by plan sponsors, the survey results suggest that tide is shifting toward evaluating custom or multi-manager TDF options,” says Scott Brooks, managing director of defined contribution for SEI’s Institutional Group. “This makes complete sense, as DC plan sponsors are recognizing that their fiduciary responsibilities have evolved and they need to focus on making sure the DC plan’s investments can provide participants with adequate retirement income.”

The push to provide participants with adequate retirement income could be the driving force behind changes to current target-date funds, the research suggests, but success metrics also need to change. Less than one-third (29%) of those surveyed said the organization measures the effectiveness of the investment options in the defined contribution plan by evaluating whether projected participant income replacement ratios are being met at retirement.

A vast majority (98%) of plan sponsors continue to measure effectiveness by reviewing investment performance, which tends to focus on short-term metrics such as three- and five-year performance, not long-term goals. The lack of focus on meeting retirement income needs comes despite the fact that nearly two-thirds (57%) of respondents said the objective of the company’s defined contribution plan was to provide a primary source of retirement income for employees.

Concerns around being able to effectively meet fiduciary and oversight responsibilities when implementing more sophisticated funds might be causing delays for some plan sponsors to shift to custom target-date funds. When asked why they do not currently implement such funds, nearly half (49%) said concern about added complexity and liability was a reason, while nearly one-third (31%) said they lack internal resources for implementation and ongoing oversight.

This might also explain why 42% said the organization would consider outsourcing investment manager selection in some areas of their defined contribution plan. Of that group, 43% said they would do so when implementing custom target-date funds.

The poll was conducted by SEI’s Defined Contribution Research Panel in February and was completed by 285 executives overseeing defined contribution plans in the U.S. For the complete poll summary, email seiresearch@seic.com.