The Target Date Fund Change That Could Help Boomers Avoid Retirement Ruin: Ron Surz

“All the firms are using risk capacity. Personalization should be done on the basis of risk tolerance,” Surz maintains. “Risk pays more than safety, but it will destroy baby boomers in the next crash.”

Surz, who has managed target date funds for 401(k) plans since 2008, has developed Safe Landing Glide Paths as well as Soteria software to generate personalized target date accounts for retirement.

For years, he has been cautioning that boomers need the right target date fund approach to avoid losing their retirement funds in a market meltdown that could occur not long before or after they retire.

His new book is “Fixing Target Date Funds: A Fiduciary Guide to Ameliorating Alarming Deficiencies.” Surz argues that such funds are exposing millions of investors to unnecessary risk.

With personalization, the traditional one-size-fits-all target date fund gets a makeover because the investor’s age isn’t the pivotal element for the fund’s asset allocation.

In the interview, Surz, co-host of the former “Baby Boomer Investing Show” who writes a LinkedIn newsletter for boomers, discusses financial advisors’ role in setting up and structuring the asset allocation for personalized target date funds.

Here are excerpts from our conversation:

THINKADVISOR: Most of the 75 million baby boomers who are in the “risk zone” — the five to 10 years before or after retirement — are invested in target date funds, you say. Why is that?

RON SURZ: The [Pension] Protection Act of 2006 put out three qualified default investment alternatives: the target date fund, balanced account and managed account.

By far, plan sponsors chose to use the target date fund. Then, knocking on their door were the bundled providers: Fidelity, T. Rowe Price and Vanguard.

That started the oligopoly of the big three. Financial advisors felt they needed to use target date funds from those firms because everybody else was doing so.

The big three run more than 70% of the TDF market.

THINKADVISOR: How many of those firms are using a personalization approach?

SURZ: Only one, T. Rowe Price, has come to market with that. The other two are going, “We own the market; we’re sitting pretty.”

There are about four other firms using a personalization [strategy]. 

THINKADVISOR: What else should be known about personalization and target date funds?

SURZ: Personalization should be done on the basis of risk tolerance, not on the basis of risk capacity. All the firms are using risk capacity.

For at least 10 years the industry has been using risk capacity, which is the ability to take risk. That data is based on how old you are — the older you are, the more conservative you should be. All the other measures are how wealthy you are.

There are a couple of problems with that.

For instance, current providers of personalization, like PIMCO and T. Rowe Price, are using risk capacity — data on the record keeper platform — when, instead, they should use risk tolerance — the willingness to take risk.

Of all the wealthy friends we have, I can’t think of a single one that’s taking much risk. All of them want to stay wealthy, so their risk tolerance is very low, even though their capacity is very high.

Risk pays more than safety, but it will destroy baby boomers in the next crash.

THINKADVISOR: What comes next when investing in target date funds?

SURZ: Once you make the risk decision, investors need to get on a glide path. Every person has two assets: a financial asset and a human asset, which is your risk capacity going forward for the next 20 or 30 years.

The financial asset is what you save. But people save very little, so their financial asset is very small.

Through time, your human asset depletes and your financial asset grows. When you retire, you have no more human assets; they’re all used up.

THINKADVISOR: So what sort of glide path should retirees be on?

SURZ: A glide path that says as you get older and you rely more and more on that financial asset, you need to protect it.

You need to give retirees a low-risk glide path. Most glide paths aren’t what they say they are. If you personalize, you should use the best glide paths.

Personalized TDFs provide multiple glide paths that can be changed and blended.

THINKADVISOR: Can personalization save baby boomers from the financial devastation you forecast for them with the next stock market crash?

SURZ: It can help but not the way it’s being sold. A tool that can be used to build a really good custom target date fund is [for example] my Soteria software.

THINKADVISOR: How so?

SURZ: One advantage is that the funds — I call them accounts — can be used on a 401(k) platform.

The second thing is that you don’t have to settle for a retirement age of 65. People are retiring at 95 or whenever.

All the accounts can be tailored to how old you are and when you’re going to retire. There’s a fund for every day of the year.

THINKADVISOR: Where does the advisor come into this picture?

SURZ: They can structure and implement Soteria. The advisor can choose the underlying manager and funds on the platform. They help customize the account.

Advisors decide how to allocate and choose the equity funds and the bond funds. Let’s say there are 20. It’s any way the advisor wants to work.

They tell Soteria what the safest asset is; a money market account, for example. Advisors are fiduciaries with lots of control. They’re part of the team.

THINKADVISOR: Do you see any risk issues associated with firms that offer target date funds?

SURZ: Vanguard advocates 70/30 bonds/stock for the next decade, yet its target date funds are 55/35/10 stocks/bonds/cash for people near retirement.

The question is: “Will Vanguard reduce the risk in its TDFs?” If it does, it will become very close to my Safe Landing glide path as well as the glide paths of the Federal Thrift Savings Plan and [Dimensional Fund Advisors].

And it will make the Vanguard glide path actually follow the academic theory it says it follows.

THINKADVISOR: You’ve said that diversification beyond U.S. stocks “hasn’t worked — until now.” Please elaborate.

SURZ: For the last 15 years in a row, U.S. stocks have been the best-performing assets in the world.

That has changed. Gold is the best-performing asset so far this year, foreign stocks are the second-best performing and U.S. stocks are a distant third.

THINKADVISOR: Bloomberg just did a report headlined “Gold Loses Luster.” What’s your take on that?

SURZ: Gold was down six-tenths of a percent in July.

For the year-to-date ending July 31, gold was up 26%.

Does that half-a-percent loss mean it’s losing its luster? I wouldn’t say that.