The World Is Flat And Other Dangerous Target Date Fund Investing Myths

Figure 2: Delivering Results in a Down Market Point-in-Time Performance: State Street Outperformed the Competition During the
2008 Financial Crisis
 

Myth #4: Active Managers Protect Better in Equity Market Sell-Offs

At State Street, we believe that being prepared can be as effective as active management. Investing our younger participants in longer-dated government bonds is one example of this forward-looking perspective. This dimension of our diversification strategy anticipates sharp equity market sell-off events, as seen in the first quarter of 2020, during which participants with significant equity exposure require inversely correlated asset classes to offset loss. The opposite approach is required for more mature savers, who need to reduce interest rate risk. That’s why we dial back long bond duration as participants roll down the glidepath. Managing fixed income risk proactively allows State Street to deliver diversification and de-risking to the right participants at the right time. Not only does this approach allow us to be as nimble as active managers, but it stands apart when compared to other index managers that apply a static strategy to fixed income, as illustrated in Figure 3.

Figure 3: Proactive Approach to Fixed Income Risk Management

Myth 5: “To” Managers’ Emphasis on Asset Protection Leads to Better Performance

In the wake of a volatile market cycle, an investment approach that emphasizes asset protection may seem particularly attractive, but in the long run, it is an incomplete strategy for retirement success. Accumulation is still essential.

In fact, by comparing the performance of State Street’s 2020 Fund (where a 65-year-old participant would currently be invested) to the 2020 funds of three large “to retirement” managers (representing both index and active approaches), we found that a State Street investor starting at the same dollar amount in 2010 would have accumulated meaningfully higher levels of wealth than investors with the other managers, even after accounting for slightly larger drawdowns at age 65.

Figure 4: Ten Years of Wealth Accumulation in 2020 Target Date Fund Vintage

Myth #6: Alpha from Active Increases Performance

Building on our accumulation emphasis, the State Street Target Retirement Series’ glidepath construction and lower investment fees have translated into superior performance, despite the fact that index-based target date funds don’t gain potential alpha from underlying funds. Figure 5 illustrates this returns trend since the inception of our funds in January 2005.

Figure 5: Above Average Performance Returns Since Inception Highlight State Street’s Superior Performance as of March 31, 2020

Myth #7: Fees Don’t Matter in the “Active” vs. “Passive” Debate

Considering fees and investment expenses are both a plan fiduciary’s responsibility and a critical dimension for evaluating actively managed and index-based TDFs — and there is no reason to pay more. In fact, while outperforming the competition, the State Street Target Retirement Series costs less (at 12 bps) than 97% of target date suites in the market. Advisors who are able to provide their plan participants with an institutional quality glidepath, exposure to a broad set of asset classes and lower fees may be able to convert and deepen their relationships.

The State Street Difference

We deliver target date funds through various investment vehicles, including collective investment trusts (CITs), custom separate accounts and mutual funds. Since our CIT series inception in 2005, the average State Street target date fund has outperformed 94% of our peers, while also experiencing lower volatility than 76% of the same peer group, due in large part to our broadly diversified set of underlying asset classes. Our indexing approach keeps fees low, while securities lending options offer opportunities to boost returns.

With a demonstrated track record, we focus on four areas of differentiation:

1. Investment Style Consistency

We utilize style-neutral index funds to gain cost-efficient exposure to a broad set of beta without the bias or premiums associated with stock picking strategies. Some “active” managers may exhibit style drift, meaning some portfolio assets may vary in size and growth characteristics and can bounce between asset class categorizations. This volatility can be difficult for plan fiduciaries to effectively monitor and can also have a material impact on the glidepath, creating unwelcome surprises in TDF performance.

2. Asset Allocation and Investment Option Diversity

We offer one of the most diversified suites in the market, utilizing 10 underlying sub-asset classes that shift throughout a participant’s working career. This approach is particularly evident in fixed income, an area where we differentiate ourselves from the majority of TDF managers by not relying on the Bloomberg Barclays U.S. Aggregate Bond Index. Having a thoughtful point of view and more building blocks allows us to deliver tailored risk exposure to participants at every age.

3. “Through” Glidepath

Evolving to address the risks at each stage of a participant’s journey, our glidepath management is driven by academic research and a deep understanding of participant behavior — at and through retirement.

4. Ongoing Monitoring

We follow a disciplined, annual review schedule that is meant to capture our best thinking on glidepath design. This process is particularly prudent for the defined contribution marketplace because it is transparent and easily explained to plan sponsors and investment committees.

For more information on pricing, strategies and performance, contact DCIntermediaryTeam@ssga.com.