ATTRACTIONS
TDFs have several advantages. Complex investment strategies and gildepaths are wrapped up in one fund. It is easy to change the asset allocation or fund allocation with the target date wrapper. There is also the potential to include more illiquid investments within the structure. The member only sees one fund listed on their statement, rather than the multiple underlying funds.
Redington head of DC pensions Lydia Fearn says it is good for those with a lower governance budget as the funds need to demonstrate that they are performing in line with their objectives. “The fund manager will be accountable for the performance and have to change the strategy or underlying funds as necessary without trustee or governance committee intervention,” she adds.
Mercer principal and senior DC consultant Stephen Budge cites “administrative simplicity” as an attraction due to there being no requirement on the administrators to run lifestyle allocation structures. It also makes it easy for members as they simply choose the fund with the appropriate target date from the fund series.
Other advantages include managed de-risking glidepaths as the manager could make allocation changes quickly and easily when required. There is also simplicity for evolution (or element of futureproofing) as the manager can apply new ideas to the fund which will feed into all schemes utilising the series.
It is also spoken of as a “to and through” solution. “The TDF can continue to adjust the underlying asset allocation up to and beyond the expected retirement,” Herbert says.
Charlton believes that they compare favourably with lifestyling. “Identifying the performance of a target date fund is simpler as it is for a single investment fund, which will have its own price and performance history.
“By contrast a lifestyle fund, being a matrix of different funds which will be held in different proportions by each member and potentially different at points through a year, makes it hard for members to identify what they owned when and how to value it,” he adds. “Few providers offering lifestyle funds will provide a ‘personal rate of return’ as part of the annual benefit statement.
“Because the assets of many members are held within a fund, this leads to economies of scale in the dealing costs as the asset mix needs to be changed over time. Ultimately this can result in better outcomes for members.”
NEST director of investment development and delivery Paul Todd also believes that TDFs and lifestyling have common ground.
“Target date funds allow members’ assets to be grouped at the fund level and managed more dynamically than in a traditional lifestyling matrix model,” he says. “Lifestyle funds operate on a ‘set and forget’ basis that switches members’ assets automatically at a pre-determined point in time.
“The asset allocation tends to remain otherwise unchanged,” Todd adds. “Target date funds on the other hand, because they operate at the fund level, allow for far more operational flexibility. Asset classes can be added or removed, allocations increased or decreased, without affecting the administration of individual members’ pots.
“This means the asset allocation can be updated as markets, prices and regulatory circumstances change, providing greater opportunities for risk adjusted returns for members. This level of tailoring is simply impossible if there are millions of individual funds to manage, as with lifestyled funds.”
DISADVANTAGES
Target date funds, however, do have disadvantages. Hymans Robertson head of DC investment consultancy Mark Jaffary says: “The main disadvantage of TDFs is that they typically rely on a single fund manager to manage the glidepath and the underlying funds – this requires a great deal of confidence in the fund manager’s asset allocation and underlying management and over a long period. “Given this, it is not surprising that the main providers of TDFs to have any success so far are the large passive managers,” he adds.
Budge agrees: “They are typically a single manager solution so there is high level of manager concentration risk.”
Jaffray points to the cost of changing from an existing fund structure, such as a lifestyle strategy, as a drawback.
He says that many platform providers are reluctant to add TDFs (especially bespoke TDFs designed for an individual client) on their platforms because it involves adding many funds. A ‘series’ would consist of different vintages (2020, 2023, 2026, and so on), which means there could be up to 30 different funds that need to be added to a platform.
“In many cases, platform providers would charge a nominal amount to add and maintain each fund on their platform,” Jaffray adds.
Budge explains that performance monitoring of a whole solution can be difficult without the ability to assess each component.
LC&P partner and head of DC investment Laura Myers points to “potential conflicts of interest as the target date provider generally designs and manages the asset allocation using their own in-house funds”.
“If, for example, the active diversified growth fund manager had underperformed consistently, it is doubtful they would be sacked,” she adds.
One problem is that many members do not know what they would like to do with their retirement savings upon retiring.
PSolve DC solutions director Niall Alexander says that TDFs make an assumption about whether someone will want an annuity, take the cash or drawdown their investment over time.
“An individual may reach retirement and find that their funds are not invested in an optimal way for their retirement choice,” he adds.
One problem, he continues, is that most members under the age of 45 don’t know when they would like to retire, information that TDFs rely on to be effective.
“The TDF provider is unlikely to be the best-in-class manager for all asset classes and so investment performance may be inferior compared to a fund made up of the best-in-class managers,” Alexander says. “Some TDFs have high fee levels which do not necessarily provide value for money. They don’t accommodate member/scheme specific strategies as well as traditional lifestyling.
“Trustees, employers and members tend not to have control over the glidepath determined by the fund manager,” he adds.
