Target date funds are designed to take the stress out of retirement planning, but they have their critics. Stephanie Hawthorne examines the pros and cons.
“The TDF provider is unlikely to be the best-in-class manager for all asset classes and so investment performance may be inferior compared to a fund made up of the best-in-class managers.”
Niall Alexander, PSolve
The latest American import into the United Kingdom is not another fast food chain but an intriguing investment strategy. Target date funds (TDFs) have arrived to provide savers with an automated, age-based retirement plan.
The idea is that an individual in a defined contribution fund simply saves into a fund which targets a specific year for retirement, which is the target date. He or she can choose a target retirement date to aim for from a range of usually three or five year choices – commonly referred to as vintages.
Usually the system puts an individual’s savings in a combination of riskier assets, such as equities, when members are younger and lower risk assets like bonds and cash as they approach their selected retirement ‘target date’. In a TDF this is done within a single fund. So a member puts their money in and investment decisions are then made for them over the life of the fund. For example, if a member intends to retire in 2045, they would invest in the 2045 TDF fund.
Estimates vary about the number of UK pension schemes using TDFs, but Willis Towers Watson head of DC Investment Paul Herbert puts the number at between 5% and 10% of the market.
The main alternative to TDF is lifestyling, which has been used in the UK for the past 30 years, but Steve Charlton, SEI’s DC managing director for EMEA & Asia, expects TDFs’ popularity to increase.
Indeed, European DC Pensions, Evolution and Revolution, published by Spence Johnson Market Intelligence in 2016, estimates that current TDF usage in the UK totals £2.1bn or 3% of institutional default strategy assets. It predicts that this will increase to one quarter of UK default assets by 2025.
One of the largest pension schemes to use TDFs is NEST. Other master trusts using target date funds include Aon, Bluesky and TPT. Several investment managers offer TDFs in the UK including Alliance Bernstein, Blackrock, Legal & General, State Street and Vanguard.
Vanguard has just launched the Vanguard Target Retirement 2060 Fund and the Vanguard Target Retirement 2065 Fund in the UK. It is the largest manager of such plans in the US with $597bn of target date assets in the country by the end of October.
