The struggle is real.
Target-date funds may be the go-to allocation for most 401k sponsors and participants, but there’s one area they can’t seem to figure out—fee compression. It’s an ongoing, and increasing, problem fueled by a concentration of assets in a handful of managers and a rapid rise in inflows.
Cerulli Associates says it “persists unabated’ and the scale of assets required to launch a new target-date fund priced low enough to compete with the largest managers is an increasingly powerful barrier to new entrants.
The research and consulting firm finds that in the face of fee compression, target-date managers and retirement plan consultants are exploring new avenues for customization, such as blending active and passive strategies, creating white-labeled, open-architecture products, and incorporating a transition to managed accounts.
In 2018, total active target-date fund assets remained higher than passive, but their market share lead over passive target-date funds fell to 12% from 18.1% in 2017.
New product development, such as hybrid target-date funds, which use a combination of active and passive management, is changing this dynamic.
“Assets invested in hybrid target-date funds are growing, and nearly half of target-date managers surveyed believe that hybrid target-date products will gather meaningful defined contribution (DC) plan assets during the next one to three years,” Daniel Uquillas, a senior analyst at Cerulli, said in a statement.
Contrary to the expectation that most interest in hybrid products would come from fully active sponsors looking to pay lower fees, equal interest has come from fully passive sponsors, which may view the active component as a means of providing downside protection in the event of a market downturn.
“As target-date fund managers continue to look for ways to deliver customized solutions at scale, some retirement plan consultants are trying to distinguish themselves by creating open-architecture, multimanager target-date funds with different subadvisors for each asset class,” says Uquillas.
Collective investment trusts
These white-labeled products are typically implemented in a collective investment trust (CIT) structure, allowing for lower costs and less operational complexity.
One executive interviewed by Cerulli estimates that nearly three-quarters of mid-market 401(k) plan aggregators are interested in collective, custom target-date funds, and that interest has increased in the past 18 months.
Managed accounts
Managed accounts are also on target-date managers’ radars.
Nearly half of survey respondents agree that target-date funds are not customized enough for participants in or near retirement.
When asked about the likelihood that various attributes will be included in the development of new target-date products, target-date managers most frequently cite the incorporation of a transition to managed accounts (also referred to as dynamic solutions).
“We recommend that target-date managers examine the potential demand for dynamic solutions, as many savers nearing retirement could benefit from customization,” Uquillas concludes.