As target-date funds mature, recent research confirms, they are expanding beyond their initial focus and beginning to look more like other mutual funds. Of course, given the popularity of the such funds in 401(k)s and other employer retirement investment plans, they are becoming a bigger share of the overall mutual fund market as well. So perhaps it also can be said that the mutual fund industry is starting to look more like the target-date universe.
Target-date funds took off because of the Pension Protection Act of 2006. It opened the way for employers to automatically include employees in retirement plans unless they opted out. This raised participation levels among employees, and was paired with the heightened development of the sorts of default investment choices available for these automatic enrollments. Target-date funds emerged as the big winner here.
The funds were designed to match retirement investment needs of employees at different stages of life. Funds were identified by a target year, and different funds were launched for five-year intervals—2015, 2020, 2025, and, so far, all the way out to 2055. Each fund is managed to automatically adjust its investment mix over time, moving slowly away from holding stocks in favor of bonds and other conservative investments that are more appropriate for older investors nearing retirement. The funds also automatically rebalance their holdings to reflect market activity, thus promising "set and forget" retirement investing that does not require employees to become market experts.
During the market's recessionary plunge in 2007 and 2008, target-date funds took big hits as well, and fund managers were on the defensive in trying to correct the widespread impression that the funds should have somehow been invulnerable to market declines. As market values recovered, so did these funds' collective image.
BrightScope and Target Data Analytics, which specialize in 401(k) analysis, recently released a study of 420 target-date funds sold by roughly 40 companies. It looked at their performance through the end of last year, and their top-level findings included clear signs of a maturing industry:
1. The costs to employee investors in target-date funds (TDF) are dropping as funds continue to lower their investment fees. "The standard to be a truly low cost, index TDF fund series is now under 20 basis points thanks to Vanguard (0.18 percent), TIAA-CREF Lifecycle Index (0.18 percent), and Fidelity Freedom Index (0.19 percent)," the firms said. "BlackRock LifePath Index (0.28 percent) and iShares (0.31 percent) are close behind." However, their report said that average fees of 0.72 percent of assets are still high and declined in the past year by only 0.03 percent.
2. As is the case with broader mutual funds, the use of index funds and exchange-traded funds within target-date funds is expanding. Fourteen of the 41 ETF investment companies in the study are using ETFs in their target funds. And there now are 11 target-date funds that consist solely of index funds.
3. "Non-traditional asset classes such as TIPS [Treasury Inflation Protected Securities], real estate, and commodities are slowly gaining traction in the TDF marketplace," their report said. "Those three asset classes now comprise about 6 percent of the underlying holdings of target date funds, compared to about 4.5 percent at the end of 2009."