The High Stakes of QDIA Selection

By Chat Cowherd - November 15, 2018

Target-date funds (TDFs) are by far the most common qualified default investment alternative (QDIA) used in retirement plans today.1 Changing market conditions and balancing the needs of younger and older participants makes selecting and monitoring these investments challenging. We now offer an innovative resource to help determine if a TDF series is the right fit for the demographics of a plan.

More Retirements at Risk

TDF assets have risen by 17 percent year-over-year since 2001. At the end of 2017, assets stood at nearly $1 trillion.2 As new participants increasingly start out with TDFs, we expect assets to continue to grow—perhaps at a faster clip than the past 10 years.

Although TDFs are pulling in new generations of savers, participants 20 years or less from retirement hold the lion's share of assets—more than 7 times the amount held 10 years ago. And we think assets held by participants 50 years and older could potentially double by 2022.3

TARGET-DATE FUNDS AND PARTICIPANTS GROW UP

TARGET-DATE AUM FOR PARTICIPANTS 50+ YEARS OLD

Source: Morningstar
1 Includes 12/31/2007 data for all mutual fund target-date assets for the Target-Date Retirement, 2000-2010, 2015, 2020, and 2025 Morningstar categories.
2 Includes 12/31/2017 data for all mutual fund target-date assets for the Target-Date Retirement, 2000-2010, 2015, 2020, 2025, 2030, and 2035 Morningstar categories.
3 2022 TDF assets under management are purely hypothetical and assume a 2x growth in assets over the next 5 years.

A Downturn Similar to 2007 May Be Even More Devastating

With more participants close to retirement and relying on TDFs, a market correction could have an impact worse than the global financial crisis.

WEIGHTED AVERAGE LOSSES FOR AGE-50+ VINTAGES

2017 loss calculation on left based on actual mutual fund losses from 11/2007 to 2/2009 for the mutual fund categories mentioned in figure 1.
2017 loss calculation for illustrative purposes only and is based on a hypothetical 20 percent loss for the mutual fund assets show in figure one as of 12/31/2017.
2022 TDF assets under management are purely hypothetical and assume a 2x growth in assets over the next five years. Loss calculation is for illustrative purposes only and is based on a 20 percent loss for hypothetical TDF assets.

Mind the Generation Gap

The Department of Labor (DoL) outlined four types of QDIAs. However, the appeal of age-based enrollment and automatic asset allocation adjustments have made TDFs the dominant choice. In 2013, the DoL issued guidance to help with the selection and monitoring process. It urged fiduciaries to evaluate the participant population and understand the plan demographics.

One important aspect is looking at employee age ranges and the concentration of assets based on years to retirement. That’s because participants reaching their peak wealth levels and nearing the time they will be withdrawing their money generally have risk sensitivities that are counter to those just starting out.

For example, a company with a large number of employees near retirement with sizable savings may be focused on reducing dispersion of outcomes and limiting large potential losses. Another company may be focused on helping people build wealth and thus may accept greater volatility for more long-term return potential.

New Resources for High-Stakes Decision Making

Assets continue to pour into TDFs and market dynamics are changing. It is important that plan fiduciaries carefully consider how well a target-date series fits the characteristics of the employee population and the plan’s objective. What’s more, demographics change over time, so it’s prudent to re-evaluate the QDIA and participants’ allocations on an ongoing basis.

With so much at stake, we now offer plan fiduciaries innovative, customized analysis to help determine the suitability of a target-date series across the generations of participants in their plan. Learn about new resources available to help keep more employees on track to secure retirements.

Chat Cowherd
Chat Cowherd

New Resources

Learn about new resources available to help with TDF evaluation and selection.

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      1 Source: PSCA’s 59th Annual Survey of Profit Sharing and 401(k) Plans, Reflecting 2015 Plan Experience.

      2 Source: Morningstar Direct. Data as of 12/31/2017.

      A target date is the approximate year when investors plan to retire or start withdrawing their money. The principal value of the investment is not guaranteed at any time, including at the target date.

      Each target-date portfolio seeks the highest total return according to a preset asset mix. Over time, the asset mix and weightings are adjusted to be more conservative. In general, as the target year approaches, the portfolio's allocation becomes more conservative by decreasing the allocation to stocks and increasing the allocation to bonds and money market instruments.

      The opinions expressed are those of American Century Investments (or the portfolio manager) and are no guarantee of the future performance of any American Century Investments' portfolio. This material has been prepared for educational purposes only. It is not intended to provide, and should not be relied upon for, investment, accounting, legal or tax advice.

      Diversification does not assure a profit nor does it protect against loss of principal.

      The opinions expressed are those of American Century Investments (or the portfolio manager) and are no guarantee of the future performance of any American Century Investments' portfolio. This material has been prepared for educational purposes only. It is not intended to provide, and should not be relied upon for, investment, accounting, legal or tax advice.