Retirement plan

Like mermaids and unicorns, passive target-date funds are simply a myth, according to State Street Global Advisors.

SSGA’s Gregory Porteous stopped by ThinkAdvisor’s offices to discuss a new report from State Street Global Advisors called “The World Is Flat & Other Dangerous TDF Investing Myths.”

(Related: Liz Ann Sonders: The Big Mistake Investors Should Avoid This Year)

Porteous is a managing director of SSGA and head of defined contribution intermediary strategy within the Institutional Consulting Group. His team is responsible for developing and maintaining key DC relationships serving as thought leaders on industry trends, leveraging distribution opportunities and being both a tactical and strategic consultative partner. SSGA, one of the world’s largest asset managers, is a provider of target-date funds.

Porteous said that advisors, recordkeepers and plan sponsors often separate target-date funds into three buckets: active, passive and hybrid.

“What they call ‘active’ is a target-date with all active managers underneath it; ‘passive’ is a target-date with all index; and ‘hybrid’ is a little of both,” he explained to ThinkAdvisor.

However, according to Porteous, there’s really no such thing as a hybrid or a passive target-date fund.

“Within a target-date, it’s always an active asset allocation decision,” he explained. “You’re always building the allocation based on the age, the target of the employee and the glide path.”

According to the report, SSGA believes it is time to dispel some of the myths of “passive” target-date funds.

Myth: All target date funds are either passive or active.

When it comes to target-date selection, there is a growing concern that the retirement industry is falling back on outdated thinking, creating false distinctions between “active” and “passive” TDF suites, according to the SSGA report.

“Indexing giants that offer target-date solutions utilize index funds as their underlying building blocks to access appropriate asset classes in an efficient, cost-effective manner,” the report states.

However, the report notes that this does not mean that these target-date suites are passive strategies.

Myth: There is no variation across TDF managers.

The report looks at recent data from Cerulli that finds that nearly half of target-date providers use a custom benchmark for each vintage in their series.

“This wide range of custom benchmarks highlights the active management decision making such as which asset classes to use and asset allocation across target-date vintages that occurs across the universe of TDF managers,” the report states.

According to Cerulli’s 2017 Defined Contribution Distribution data, almost 40% of target-date providers use a custom benchmark, compared with almost 21% that use an S&P target-date idex as a benchmark and nearly 17% that use a peer group as their benchmark.

Myth: TDFs are all created equal.

While performance comes under greater scrutiny in down market cycles, the SSGA report notes that it’s the fund methodology and risk profiles  not active vs. index-based approaches that separates the “stars from the sinkers.”

The report also points to research from a Brinson-Hood-Beebower study that shows that asset allocation, not securities selection, accounts for more than 90% of return viability.

“So when people refer to active and passive, those are the securities underneath,” Porteous told ThinkAdvisor. “What we’re saying is it’s more important, you should be more concerned about the asset allocation versus what’s under it.”

Myth: 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, according to the report.

“Advisors who are able to provide their plan participants with an institutional-quality glide path, exposure to a broad set of asset classes, and lower fees may be able to convert and deepen their relationships,” the report states.

— Check out Latest Ups and Downs of U.S. Retirement Preparedness on ThinkAdvisor.