Advisors should do more to monitor the fixed-income portion of their clients’ target date funds, according to one retirement expert.
With the growing popularity of target-date funds, especially as the default option for 401(k) plans, advisors should have increased their oversight of the funds, but many have decreased their reviews, says Matt Sommer, vice president and director of the Janus Retirement Strategy Group.
Keeping a close eye on the choices that are made becomes even more important in a rising rate environment when bond prices decrease, Sommer says.
According to a survey last year of 6,000 401(k) plans, 72 percent offered target-date funds as an investment option and nearly half of the sponsors believed target-date funds were the best qualified default investment alternative (QDIA), he reports.
Investments in target-date funds have been increasing dramatically, with $481 billion invested last year, three times the amount invested in 2008. However, 43 percent of plan sponsors are not monitoring their target-date funds' fixed-income components, Sommer says.
The fixed-income portion of a target-date fund portfolio is designed to preserve and protect principal and is critical to the value of the portfolio. In a rising rate environment, when bond prices are dropping, this becomes an important area for oversight, especially for those target-date funds nearing their end date.
The fund needs to be managed for risk-adjusted returns and capital preservation, and plan fiduciaries should give it the same level of attention they give the equity portion of the fund, Sommer says.
When reviewing portfolios, advisors should identify other investment options, even though their choices may be limited in employer-sponsored 401(k) plans, Sommer advises. “Balanced funds, in particular, can serve as an excellent alternative to target-date funds, as fund managers have more flexibility to adapt to changing market conditions and the freedom to take advantage of shifting opportunities,” he says.
In addition, before committing to a target-date fund, an advisor should determine if the managers for the fixed-income portion have managed a fund through complete market cycles, Sommer says. Advisors need to consider the managers’ yield curve management, sector allocation, individual security selection and duration management.
Duration management is the extent to which the price of a bond is affected by movements in interest rates. With the proper duration management, plan participants can have the potential for more attractive returns, Sommer says.