Time to Reevaluate Target-Date Funds

This article was originally published by Financial Planning magazine on Saturday, Aug. 1, 2009.

By Katherine Reynolds Lewis

When target-date funds (TDFs) were first introduced in the early 1990s, many considered them the best financial innovation in decades. They would incorporate best behaviors in asset allocation and rebalancing, and help individuals make age-appropriate investments. The funds really took off in 2006 when they became qualified default investment alternatives (QDIAs) for 401(k)s. Today, TDFs hold more than $180 billion in assets.

But when the financial markets collapsed in 2008, TDFs got hit—hard. Employees who were about to retire lost 25% of their portfolio, on average.

As the government takes a second look at the financial world, it is evaluating whether these funds protect investors'—your clients, whether they are employers or employees—best interests. Their findings will help shape the financial reform debate, as they cover who bears fiduciary responsibility, what is accurate nomenclature and what is an appropriate level of risk for a QDIA.

The SEC and the Department of Labor's joint hearing on June 18 was the first step toward new requirements for TDFs. Officials heard from nine panels of more than 35 witnesses who recommended enhanced disclosure, standardized naming of TDFs and even new rules for fund managers.

"We must focus on how best to address TDF issues in a way that benefits the investors who have entrusted these funds with $182 billion," SEC Chairman Mary Schapiro said in a speech after the hearing. The SEC will consider improvements in disclosure and will look closely at "whether the use of a particular target date in a fund's name is materially deceptive or misleading and should be prohibited."