Participant Behavior Debunks TDF Assumptions

November 30, 2012 ( – Real-world participant behavior does not match industry standard target-date fund (TDF) assumptions, making for complex manager selection and plan design choices.

J.P. Morgan’s series “Ready! Fire! Aim? How some target-date fund designs are missing the market on providing retirement security to those who need it most” found real-world activity among savers is more unpredictable than many fund managers assume in their fundamental design, often resulting in too much volatility embedded in TDFs.

Consistent with previous years, participants contributed less and borrowed and withdrew more than industry expectations informing asset allocation models. Whereas a general assumption is that participants start contributing at 6% and reach 10% of salary by age 35, in actuality, at the end of 2011, average participants start contributing at 5% and increase slowly, not reaching 10% until age 59.

Contribution rates for auto-enrolled participants are even lower. Meanwhile, large numbers of participants continue to take sizable account loans and pre-retirement hardship withdrawals are on the rise. These suboptimal behaviors directly translate into a wider range of projected participant outcomes.

The study also found that most participants withdraw their entire account balances shortly after they stop working. As of 2011, 83% of participants had withdrawn their entire account balance within just three years of retirement. This has significant implication for the “to” versus “through” glidepath debate in the TDF industry, as it relates to contention over the appropriate level of equity risk at the point of retirement, the study asserted.

“It's risky for target-date funds to rely heavily on equities, but at the same time they can't curtail long-term return potential by being too conservative,” said Daniel Oldroyd, portfolio manager of JPMorgan SmartRetirement target-date strategies, J.P. Morgan Asset Management Global Multi-Asset Group. “We think the solution is to increase risk efficiency through broader asset class diversification, such as incorporating high yield, direct real estate, emerging market equity and debt and other asset classes to lower expected volatility without sacrificing return potential. A stronger risk-adjusted return profile can also help mitigate the long-term impact of these negative participant behaviors, such as loans and contribution shortfalls, that we see occurring increasingly among savers."

Despite the increasing adoption of automatic plan design features such as automatic enrollment and automatic escalation, J.P. Morgan findings show that overall contribution rates are generally in decline. On average, new plan entrants are contributing less overall and growing their contributions more slowly. The average auto-enrolled participant contribution rate was 4%, almost half the average contribution rate of 7.7% for non-auto-enrolled participants.

“When it comes to getting as many participants over the retirement finish line as safely as possible, proactive plan design can be equally as important as investing and asset allocation,” Oldroyd said. “Defined contribution plans are ultimately a partnership between participants and companies, but the reality is that sponsor decisions have a tremendous impact on retirement outcomes.”

“Ready! Fire! Aim? How some target-date fund designs are missing the market on providing retirement security to those who need it most” began reporting in 2007 and now reflects 10 years of consistent data. The research is based on a group of 280 defined contribution plans with 1.5 million participants administered by J.P. Morgan Retirement Plan Services.