My last column, in April, talked about how Canadian target-date fund suites behaved differently during the first quarter of this year, where markets were reacting to the coronavirus crisis.
The disparity of year-to-date returns continued in the following months. For some capital accumulation plan sponsors, the behaviour of their plans’ TDFs over recent volatile market periods — December 2018, this year’s crisis — has prompted them to review their selection against new criteria. In fact, most CAP sponsors selected a TDF suite some years back and never really questioned it as markets have generally performed very well.
They’re now discovering more options and are able to compare different glide paths, the use of new asset classes to dampen volatility, the ability to handle downside risk near retirement and sometimes even lower fees than they thought possible.
Some of our plan sponsor clients have gone through this process and decided they were happy with their current funds. Others found a better fit with a different TDF solution and have had to think about how to implement the change. Some of the challenges encountered include:
Is your dream TDF suite available to you at your current defined contribution plan provider? Sometimes they are, sometimes they aren’t. Sometimes they aren’t offered on the provider’s standard platform, but available for additional fees and aren’t monitored in any way by the provider’s investment team. One plan sponsor client liked a TDF solution so much they decided to change providers to be able to offer it to their members.
- Differences in asset mix along the glide path
It seems logical at first sight to map plan members’ savings from one fund suite to the other simply using the same target year — say, 2035. After all, the ultimate goal is that members use the new glide path according to their targeted retirement age. But there are important discrepancies in asset mix between some suites.
Would you want to move soon retiring members invested in the 2020 fund to its new corresponding one if that means increasing the equity content by 10 per cent? Particularly now? What if equity markets fall sharply the following week or following month? Maybe you want to map differently? Should you validate with impacted members or let them make the decision and not map at all? How do you make sure members understand what they’re doing, knowing a vast majority doesn’t want to be actively involved in the investment process? You need a carefully crafted transition strategy to avoid potential problems and eventual fiduciary liability.
Some recent improvements to TDFs, like the introduction of certain, more complex asset classes, including private investments, come at a higher price, meaning higher investment fees. This fee increase can sometimes mean higher expected long-term returns, but it could also mean lower volatility or better downside risk protection, depending on where a member is on the glide path.
Even though many members don’t focus on fees, justifying higher ones and managing expectations through adequate communication is important to avoid challenges later.
Other important factors also come into play. So it’s important that CAP sponsors don’t underestimate the thinking and efforts required to make changing the TDF suite the success it should be.