Target date funds (TDF) start off strong only to vary more in investment performance and risk as they approach the specified retirement date, according to the Government Accountability Office (GAO), which asked the Department of Labor (DOL) to do something about it.
The GAO called on the DOL to update its TDF guidance, which is over a decade old.
“Variation in TDF design affects their performance and risk,” the GAO wrote. “Asset managers design TDFs’ investment mixes to shift from higher risk assets (e.g., stocks) to lower risk assets (e.g., fixed income) over time, based on participants’ targeted retirement dates. According to GAO’s analysis of Morningstar Direct data, these mixes varied more within 10 years of the target date.”
Citing additional Morningstar and Investment Company Institute (ICI) data, it noted the roughly $2.8 trillion in TDF assets held in defined contribution plans as of June 2023.
It also said the share of participants offered TDFs increased from 42 percent in 2006 to 84 percent in 2020, and “auto-enrollment contributed to a majority of participants investing solely or primarily in TDFs, which represent more than a quarter of 401(k) assets.”
“As the stock market dropped precipitously at the start of COVID-19, retirement experts and members of Congress raised questions about variation in the performance and risk exposure in TDFs, particularly those held by participants close to retirement,” the GAO wrote. “GAO was asked to examine TDFs’ performance and risk.”
DOL’s guidance has not been updated and “lacks detail.”
“For example, DOL developed guidance in 2010 for participants and in 2013 for plan sponsors to help them select TDFs. However, the guidance does not include recent developments, such as the increase of TDFs structured as collective investment trusts. Collective investment trusts are bank-administered pooled funds established exclusively for qualified plans such as 401(k)s. The responsible bank acts as the fiduciary and holds legal title to the assets.”
Without updated guidance, plan sponsors and participants may get confused about collective investment trust TDFs guidance.
The GAO recommended that the DOL update its 2013 guidance for plan sponsors and its 2010 guidance for plan participants on selecting TDFs.
However, the DOL disagreed with both recommendations.
