Fiduciaries think any qualified default investment alternative (QDIA) will do, and that it’s prudent to pick the biggest. Consequently, more than 60 percent of target date fund beneficiaries get the “Big Three” (Vanguard, Fidelity, T. Rowe Price) rather than the best. Unfortunately, prudence is not that simple and it will take a market correction, and lawsuits, to wake folks up. We’ve simply forgotten 2008.
Fiduciaries generally believe that they are protected from litigation in their selection of target date funds (TDFs)by two safe harbors :
- Properly structured TDFs are QDIAs under the Pension Protection Act of 2006; form over substance.
- There is safety in numbers, so choosing one of the most popular TDF providers is prudent. Fidelity, T. Rowe Price and Vanguard manage 65% of the blossoming trillion dollar TDF market. You can’t go wrong with a brand name. Or can you?
There’s more to selecting TDFs than these two simple rules. Reliance on these trifling shields can lead to breaches of fiduciary duty that will bring lawsuits (loss-suits) when we experience the next 2008, which will happen sometime, perhaps even this year. Most TDFs are ticking time bombs because they are too risky at the target date.
The Duty of Care
Fiduciaries are exposed to lawsuits because they have the duty of care, so they are obligated to actually vet their TDF selections and to establish objectives that are truly in the best interests of participants. Fiduciaries are duty bound to seek solutions rather than settling for high-risk products that are oblivious to history. Ignoring the past (especially 2008) and hoping it’s different the next time is not an option, and it’s certainly not an enlightened view of risk management.
Contrary to popular participant need and belief, TDFs do not protect the vulnerable from loss. They sure didn’t in 2008, and they’ve become riskier since.
Most participants in TDFs are defaulted into this product, which means that most participants rely upon their employers to do the right thing by protecting savings, especially near retirement (even though they are not). Older participants are not getting the protection they want and deserve.
Real Safety
So how safe is safe? I believe that there should be very little invested in equities and long-term bonds at the target date, so “safe” is 95 percent in Treasury bills and intermediate Treasury Inflation-protected Securities (TIPS). Some have said that this is way too safe due to the fact that participants have many years ahead of them in retirement, but the fact is that most participants in TDFs withdraw at the target date. Real safety at the target date assures that participants won’t experience a 2008-shock when they request their savings.
Ronald J. Surz is president of PPCA Inc. and Target Date Solutions in San Clemente, California.Target Date Solutions developed the patented the Safe Landing Glide Path®, the basis for the SMART Funds® Target Date Index collective investment funds on Hand Benefit & Trust, Houston, the only investable target date fund index. Ron is co-author of the Fiduciary Handbook for Understanding and Selecting Target Date Funds.
With more than 20 years serving financial markets, John Sullivan is the former editor-in-chief of Investment Advisor magazine and retirement editor of ThinkAdvisor.com. Sullivan is also the former editor of Boomer Market Advisor and Bank Advisor magazines, and has a background in the insurance and investment industries in addition to his journalism roots.
