Room for More Innovation in the QDIA Sphere

While TDFs have dominated for over a decade, the industry is recognizing a need for personalization of QDIAs using more participant inputs.

Target-date funds (TDFs) have governed the qualified default investment alternative (QDIA) space since the Pension Protection Act (PPA) was passed over ten years ago.

Most employees participating in a 401(k) account are investing in a TDF. A recent Cerulli Associates study found target-date assets represent 58% of 401(k) net flows, while the 2018 PLANSPONSOR Defined Contribution (DC) Survey found 73% of plan sponsors utilize a TDF as their default investment.

The mass use of TDFs comes at no shock: they are relatively easy to navigate. Otherwise perceived as a ‘set-it-and-forget-it’ strategy, TDFs allow participants to automatically preserve age-appropriate asset allocations. As participants age and consider more conservative funds, TDFs will too. This permits employees to commit to the fund for the long term.

“TDFs have been the most well-developed solutions for the longest period of time,” says Lorianne Pannozzo, senior vice president and head of Workplace Planning and Advice at Fidelity. “The more companies utilize it, the more it’s seen as the safe, protective option to default a participant to.”

This domination of TDFs poses the question of whether participants and plan sponsors can feel confident in other types of funds approved as QDIAs, and whether the retirement industry can innovate TDF properties to deliver customized retirement solutions that participants need. According to Daniel Uquillas, senior analyst at Cerulli Associates, QDIAs are seeing growth in the market, with several trends sprouting in product innovation.

“Firms are really trying to differentiate products and serve participants, while trying to justify additional complexity and cost,” Uquillas says.

Uquillas notes the recent movement towards dynamic target-date solutions, or hybrid QDIAs. Participants are defaulted into a TDF until they meet a specific criterion, for example, turning 50-years-old or exceeding $100,000 in assets, says Uquillas. Then, participants are transitioned to a more personalized managed account. This practice creates a glide path for investors and allows them to follow a tailored approach with their investments.

“TDF managers have noted that these types of products that incorporate a transition are really the most advanced in the field of product development in TDFs,” Uquillas adds.

The financial services industry is seeing a greater shift in personalizing QDIAs, with managed accounts helping to do so, Pannozzo adds. Plan sponsors are searching for measures to provide tailored solutions, and one way to incorporate that is through this dual integration of TDFs and managed accounts. 

“This has become very applicable in the financial space, where we know you can get people on a better path if you know more about risk profiles and other information,” she explains. No longer do employers or their participants want a one-size-fits-all solution, she adds, they’re looking to manage their own personalized goals.

This integration of both funds doesn’t follow an all-or-nothing approach either. It takes on flexible risk profiles, whether that includes or excludes information on age or assets, for example. Depending on profile information, participants can determine whether they would prefer a strict TDF account, a managed account or a hybrid of the two. While TDFs only take into account a participant’s age, managed accounts look at other factors including risk tolerance or outside assets. At Fidelity, employers can default employees to the Smart QDIA, where age, account balance, contribution amount and other indicators determine investments.

“It’s more about the concept that you can have both a target-date solution and a managed account offered as a QDIA, and it would be the profile information of the individual that would determine,” Pannozzo says.

Looking ahead, Pannozzo and Uquillas foresee growth around the integrated solution. Even as TDFs provide a secure, stable path, especially as an auto-solution, the retirement industry is gearing towards hybrid and customized funds, whether that leans towards conservative or aggressive solutions.

“We’re expecting more customized TDFs,” says Uquillas. “Several TDF managers have developed more conservative and aggressive versions of their flagship products, which allows plan sponsors or participants the flavors they prefer.”

“What we’re starting to hear more is around the criteria that would establish what is the right level of personalization,” adds Pannozzo. “How much information can you get out of the recordkeeping system, and how flexible is that criteria?”