Participants Sabotaging Help TDFs Give Them

May 13, 2014 ( - Many defined contribution retirement plan participants are not using target-date funds (TDFs) as designed.

A new study from Financial Engines and Aon Hewitt finds only 37.8% of participants invested in TDFs are using them as a “one-stop” investment. “This means the typical usage of target-date funds is as part of their portfolio; 62% are using them as part of the portfolio,” Wei-Yin Hu Financial Engines’ VP of Financial Research tells PLANSPONSOR. “This is an area of concern for us.”

Wei explains this is the first time Financial Engines and Aon Hewitt have looked at the partial usage of TDFs in its “Help” study. “We’re trying to figure out why those not getting help are not getting the same investment returns [as those who do use help in their retirement plans]. It’s in part from having incorrect risk in their portfolios and not using TDFs correctly,” he says.

According to the study report, “Help in Defined Contribution Plans: 2006 through 2012,” partial TDF usage had a negative impact on returns. Median annual returns for 2010 to 2012 were 2.44% (244 basis points) lower for partial TDF participants than for participants receiving all three types of help studied (TDFs, managed accounts and advice) in the same time period, net of fees. Partial TDF participants tended to misallocate the remainder of their portfolios. As a result, more than six in 10 (61.8%) had inappropriate risk levels for their overall portfolios.

In addition, the study found almost three out of four (74.3%) partial TDF participants held less than half of their portfolio in a TDF, with the average allocation being 35% of the account. The study report explained the pattern of partial allocations to TDFs suggests influences both from active elections and from plan design features, such as a match in company stock.

But Hu says partial TDF usage reflects a variety of things. “Fundamentally folks are not understanding how TDFs work and what they are supposed to do. Also, they’ve been previously told not to put all their eggs in one basket. Some partial TDF participants even may have been defaulted into a TDF, but over time they invest in other funds and undo the advantage of TDFs. They end up making the same mistakes those not using TDFs at all make,” he explains.

Hu says this raises the question of whether defaulting participants into TDFs works over time.

Rob Austin Aon Hewitt’s Director of Retirement Research tells PLANSPONSOR there’s a couple of things plan sponsors can do, if they really believe TDFs are the right solution for their participants. They can reenroll participants into TDFs, and tell them, “We’re going to put you back into TDFs.” More education about the proper use of TDFs is needed. “Tell them specifically that putting their funds in other investments is hurting them,” he says.

He also suggests plan sponsors introduce other forms of help. “TDFs are good, but not necessarily for everyone. Some need more help and guidance, such as online advice and/or managed accounts,” Austin says.

The Financial Engines/Aon Hewitt study looks at the impact of target-date funds, managed accounts, and online advice—collectively referred to as “Help”—in employer-sponsored defined contribution plans. It includes an analysis of 14 defined contribution plans representing more than 723,000 individual participants with more than $55 billion in plan assets.

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