As the calendar year comes to a close, many people take a step back and reflect. In that spirit, we wanted to step back and provide some insight on the trends and evolutions within one of the most prominent investments for defined contributions plans, target date portfolios. Since the Pension Protection Act of 2006, target date portfolios have experienced a meteoric rise, taking the top spot with 76% of Plan Sponsors choosing target date suites as the Qualified Default Investment Alternative (QDIA)1. As we reflect on these portfolios, there are a number of notable changes (or lack thereof) that have taken place over the last five years.
Active vs. Passive Debate, No Exceptions Here
Many investors are well aware of the long-standing debate between active vs. passive investing. By no means have target date portfolios been exempt from this discussion. At the end of 2016 roughly 60% of all assets invested in target date portfolios were active2. While 60% may sound high, that percentage is down from more than 80% in 20062. The trend toward passive management continues with passive inflows overtaking active inflows in both 2015, 2016 and are on pace to do so in 20172. While this data likely does not surprise many given the recent success of passive returns, we continue to remind Plan Sponsors that there is no fiduciary protection in selecting passive investments. Choosing a passive portfolio may very well be the most prudent investment option for a plan, however, active vs. passive and management fees are just two of many different criteria to consider when prudently selecting and monitoring such an investment.
The War on Expense Rages On
Fees are down across nearly all public asset classes, however target date funds are under particular pressure. With ongoing fee litigation in the defined contribution market and plan QDIAs often taking center stage, the battle for a fee competitive portfolio is fierce. At the end of 2016, the asset-weighted expense ratio for target date portfolios fell to 0.71% from 0.99% five years earlier3. We believe this is a positive trend, but perhaps not for the obvious reason. While declining fees benefit plan participants, fee pressure on an asset-weighted basis could simply occur because more investors own passive target date portfolios at a naturally lower fee relative to active management. Yet, when we dig into the data, we find that fees for both active and passive portfolios are falling, offering investors the opportunity for more efficient portfolios regardless of their active or passive preference.
Glidepaths Drift Higher
While strategic shifts in glidepaths are relatively rare, they do take place. If we look at a wide enough opportunity set over a long enough period of time, trends emerge. With sufficient time since the financial crisis, equity glidepaths have begun to drift up. In many ways this makes sense. If return expectations broadly are moving lower and savings rates are not moving higher to compensate for the difference, expectations for participant outcomes would otherwise fall. Not surprisingly this is a reversal of the trend coming out of the financial crisis where glidepaths were moving lower after large drawdowns. We think there is opportunity for both higher and lower equity glidepaths in the industry given Plan Sponsors’ objectives are not homogenous. As some glidepaths drift higher, we believe it is critical to reevaluate your target date provider to reconcile if the new strategy’s objectives fit those of your plan demographics.
The Largest Continue To Thrive
With resounding stability, the top firms by assets within the target date space continue to hold their ground. By market share, the top 10 make up 94% of assets as of November 2017, nearly identical to five years ago2. Additionally, 8 of the top 10 firms by assets from five years ago are still on the top 10 list today2. However, even looking at the top 10 does not give enough consideration to the concentration at the top of the market. As of November 2017, the largest three target date providers; Vanguard, Fidelity and T. Rowe Price made up 70% of target date assets2. This is down slightly from 76% as of November 2012, but nonetheless remains extraordinarily concentrated within only a few managers. If target date assets continue to grow, this will eventually have ramifications on the capacity target date providers can offer and will be most acutely felt at the top.
