Retirement plan sponsors have a duty to screen target-date fund offerings. However, a January analysis by Janus wonders if they're doing enough to vet the underlying funds in TDFs.
Seventy percent of the target-date funds analyzed in the report include underlying managers who would fail to meet customary investment policy statement (IPS) standards in at least two categories.
"Plan fiduciaries who comply with a well-constructed IPS take an important step toward meeting certain [Employee Retirement Income Security Act] responsibilities, including the duty of prudence," authors Matt Sommer and Joel Evenhouse wrote. "Among other things, an IPS defines criteria that sponsors use to evaluate and, if necessary, replace certain underperforming managers."
However, they claim that most plan sponsors fail to consider whether the underlying funds in the TDFs they offer could pass the same performance standards as the core managers.
That's important because 60% of plan sponsors believe TDFs are the best choice for a qualified default investment alternative for their employees, according to a 2016 survey by Janus and Plansponsor. The largest plans are the most likely to use target-date funds as the QDIA; 85% of plans with more than $1 billion in assets said they use the funds as the qualified default, according to the study of approximately 4,600 plan sponsors.
The report analyzed the underlying funds in the 10 largest 2040 target-date funds by assets, as determined by Morningstar, to see what percentage of those funds would meet a sample IPS criteria. To meet the standards in Janus' sample IPS, the funds must be at least five years old, with a manager who has served at least that long, and expense ratios must be in the best 50%. One-, three- and five-year performance must be in the top half for the fund's peer group, and Sharpe ratios for the same periods must be at least median for the peer group.
Only one TDF manager (who Janus did not name) met all of these standards with 75% or more of the underlying funds. In five of the top 10 funds, less than half of underlying managers met the five-year performance and Sharpe ratio criteria (and at one of those, underlying managers also failed to meet one-year and three-year performance criteria).
