It’s an evergreen debate: whether to include active or index investment strategies in a retirement plan menu in order to offer participants the best possibility of long-term returns.
Investment professionals generally choose one side over the other. Asset manager BlackRock says it doesn’t have to be an either/or proposition, and suitability depends on participant demographics and objectives.
It’s a point that’s integral to how BlackRock has structured its offering, providing flexibility and “different levers it can pull” to help generate alpha for successful retirement outcomes.
Stacey Tovrov, Head of Investment Strategy for the Retirement Solutions team within BlackRock’s Multi-Asset Strategies & Solutions group, explains when and where active strategies might work for plan sponsors and participants, what BlackRock does differently, and future trends she believes will impact American workers saving for retirement.
Active investment options can help provide participants with a boost by delivering alpha over the broad market or category.
1. Whether to include active or index target date funds is a significant decision for plan sponsors. What are key considerations when making a choice?
There are a number of decisions plan sponsors should consider when building a plan strategy and selecting investment options including—importantly—the qualified default investment alternative. There are merits to both index and active investment strategies.
From our perspective, three key factors drive retirement outcomes: one – savings, two – the investment returns generated by the funds, and three – the costs or any leakage from the plan.
Active investment options can help offer participants a boost by delivering alpha over the broad market or category. As an example, plans that are underfunded relative to peers or plans where participants have lower savings rates and account balances can benefit from actively managed target date funds. When partnering with plans that seek that additional return, our focus is on demonstrating long-term, durable alpha that stands the test of time and persists across many market cycles.
2. The latest BlackRock DC Pulse Survey found plan sponsors are bullish on the potential benefits of active management strategies. What are the reasons?
The statistics in the latest DC Pulse Survey indicated that plan sponsors are leaning into those benefits of active, either as a way to increase returns for their participants or to build resilience. One insight that stood out is that 82% agree that an actively managed target date fund can reduce the volatility for participants. That’s powerful coming out of 2020, where we certainly saw a lot of market volatility.
Another interesting datapoint is that 84% of plan sponsors agree an actively managed target date fund could generate incremental returns—again potentially helping those participants with low account balances, while accelerating growth for other participants.
In terms of what’s driving this sentiment, the fact is that active management allows managers to access more tools to help take advantage of structural trends, address diversification goals, and mitigate risk. It’s a trend that COVID may have supercharged, but generally, we expect alpha to make up a larger portion of total returns going forward.
3. What about higher fees for participants inherent with active management, especially in the recent hyperactive environment of excessive 401(k) fee litigation?
Cost is an important consideration for defined contribution (DC) plans, one that comes up all the time. Retirement outcomes can be negatively impacted by costs associated with retirement investments if they aren’t managed appropriately. However, we’ve learned from our recent DC Pulse Survey that participants themselves are becoming less focused on fees as they look toward growth, with only 20% stating that selecting the lowest-fee product is extremely important to them. That’s down from 37% from the Pulse survey conducted in 2019.
There are a few key areas that plan sponsors should consider when looking at active strategies. The first is net-of-fee returns to ensure that fees aren’t reducing the investment returns that are earned. Looking across our full active product suite at BlackRock, for every dollar clients paid us in fees, they received $2.20 of alpha over the last 5 years on a net basis.*
At the same time, the crucial question when evaluating net-of-fee returns is relative to what? In the case of target date funds, if there is no standard benchmark, this might make it challenging to evaluate an active target date fund’s ability to generate durable alpha.
Therefore, having a clear benchmark to judge success is crucial to getting value for dollar. In the case of BlackRock’s target date series, LifePath®, we offer an active version, LifePath Dynamic, alongside our index version, LifePath Index. Many of our LifePath Dynamic clients have appreciated the fact that we use LifePath Index as a benchmark, which can allow them to better measure whether we provide excess returns and understand how they are generated over time.
4. Should target dates funds be more “customizable” for a growing number of participants who want to address their specific financial situations, perhaps outside of a traditional glidepath?
It’s an area that’s coming up more and more and we have been exploring opportunities to increase the personalization of our retirement solutions over the last few years. Target date funds have been a powerful tool in helping individuals to save and invest for their retirements. And I think it’s important to remember who we’re looking to solve for when we’re developing our target date funds.
Our current approach is designed for broad applicability and we believe meets the objectives of the vast majority of American savers. This is intentional – we design our glidepath seeking to maximize growth opportunities for younger individuals, minimize volatility and downsize risk participation for those approaching retirement, and then provide consistent spending in retirement.
Because of BlackRock’s expertise on the custom side, we get a lot of requests to analyze participant demographics and assess whether a custom target date fund may be appropriate for a particular population. Often, the analysis still points to our standard glidepath for the average participant, and that’s who we’re really looking to solve for, call it the 25th to 75th percentile of American savers. Higher income earners often have access to advice or other savings and lower income earners often rely more heavily on Social Security benefits in retirement.
5. What else can you tell us about “leading edge” TDF portfolio management today and future trends you see?
Building on our conversation about active management, which can also be viewed as leading edge in DC, there are two other trends we’re particularly focused on at BlackRock. The first is retirement income, and the second is sustainable investing.
I’ll tackle retirement income first. I think there is generally a recognition that there is insecurity for individuals near and at the point of retirement. The industry has done a really good job of getting people to save, but today, we want to think about applying what we’ve learned from the accumulation phase to the decumulation phase.
The second key trend, sustainable investing, is likely to evolve quite a bit within the U.S. DC system. Broadly speaking, at BlackRock, we believe that quantifying the impact of sustainable investing will be an integral driver of returns across our active business. Sustainable investing can broaden the overall opportunity set and allows our investment team to understand better how environmental, social, and governance issues can drive company growth or potentially expose companies to greater risk.
Uncovering some of those idiosyncratic opportunities can help enable our investment teams to deliver both alpha to our clients as well as sustainable outcomes.
Those two trends—retirement income and sustainable investing—are really the future of the retirement industry and target date funds as we look to build a better retirement for all.
*Alpha generated as a multiple of fees represents a fund’s dollar performance above benchmark return, gross and net of fees as a multiple of fees generated by the fund.
FOR FINANCIAL PROFESSIONAL USE ONLY
Past performance is no guarantee of future results.
Each fund is managed to a specific retirement year (target date) included in its name which designates the approximate year an investor plans to start withdrawing money. The allocation to asset classes in each fund balances every quarter and becomes more conservative over time as investors move closer to their target retirement date.
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Veteran financial services industry journalist Brian Anderson joined 401(k) Specialist as Managing Editor in January 2019. He has led editorial content for a variety of well-known properties including Insurance Forums, Life Insurance Selling, National Underwriter Life & Health, and Senior Market Advisor. He has always maintained a focus on providing readers with timely, useful information intended to help them build their business.
