Fund managers and other experts say that target-date funds need to increase the amount of information they provide investors to understand their investment risk. But they don’t want the Securities and Exchange Commission to change the way the funds are named.

On June 16, the SEC unanimously approved of proposed rule changes to improve disclosure of the risk factors in target-date funds – an estimated $270 billion market. The SEC now wants to require the marketing materials for target-date funds to include a visual depiction such as a table, chart or graph which would show the fund’s glide path over time. And those materials must also include a statement of the fund’s asset allocation at the “landing point” or the participants’ anticipated retirement date. The SEC also wants issues of target-date investment funds to use tag lines to describe the asset allocation of the fund. The tag line which would come immediately after the fund’s name should say what percentage of the assets are in stocks, bonds and cash.

Simply requiring investment managers to add warnings to prospectuses and related documents are not enough because “investors in target date funds are, almost by definition, not active market observers or researchers,” said SEC Chairman Mary Schapiro on June 16.

Target-date funds, which include mutual funds and investment options on variable annuity and variable life investment menus, are pegged to a person’s expected retirement year. The funds rose in popularity for plan sponsors after the Pension Protection Act of 2008 defined them as “qualified default investment alternatives.” That meant that the sponsors of the funds – the corporate employer – could not be sued when it invested a worker’s contribution in a target-date fund if the employee didn’t make another choice.

Target date funds allocate investments in different asset classes over the life of the fund and are supposed to become more conservative as workers near their retirement age. But that wasn’t always the case as indicated by the major losses they suffered in 2008 and 2009 during the market downturn. Some funds had invested in junk bonds while others had more aggressive asset allocation “glide paths” leaving near retirement investors exposed to higher levels of stock.

In their letter to the SEC, Senator Tom Harkin (D-Iowa), chairman of the health, education, labor and pensions committee, Herb Kohl (D-Wisconsin), chairman of the aging committee and HELP Committee ranking member Michael Enzi (R-Wyoming), urged the SEC to broaden the scope of disclosures required in marketing materials to include a clear statement on the age group for whom the fund is designed; the relevance of the date used in the fund’s name; the fund’s assumptions about the investor’s withdrawal intentions after reaching the target date; the rationale behind the glide path used in the target-date fund; and whether the target date fund is intended to be a fund of funds. If it is, they said that the target-date fund should disclose whether any of the underlying funds are affiliated with the target-date fund’s manager.

“Clear, prominent disclosure of such information is necessary to ensure that those investing in target-date funds can clearly understand the nature of the investment and are not confused by the fund’s name,” said the lawmakers. The senators also said that they supported the use of graphs and accompanying statements or narrative in a prominent place in the advertisements for target-date funds.

Those graphs should contain information concerning the investment composition of the fund at the starting date, the target date and the final allocation in retirement. However, those graphs should not contain so much information that it will confuse investors, said the lawmakers. And those graphs, said the senators, should be presented in such a way to allow greater comparison of target-date funds within a family of funds of an investment manager as well as comparison with other target-date funds on the market.

Chip Castille, managing director and head of U.S. defined contribution for Blackrock, also warned the SEC not to require too much information that investors would be confused. However, any graphs or charts should clearly allow investors to understand how asset allocation changes over time. Any text accompanying the chart or graphic would also disclose what types of investments should be included in each asset class, and an explicit statement that investors not be lulled into false sense of security that their investment is safe. Instead they should review their investment decisions periodically.

In an August 23 letter, Jeffrey Coons, president of Manning & Napier, agreed that an illustration of the glide path is the most effective method for providing investors in target date funds with an understanding of their risks. That glide path should highlight asset allocation at the fund’s target date and landing point.

Laura Pavlenko Lutton, editorial director of the fund research group at Morningstar recommended even more granular information. She said that providers of target-date funds should include the table of data from which they derived their graphics. She also suggested that the SEC require further disclosure of a fund’s intended subasset class allocation within broader asset classes. That is because two funds with identical equity-bond and cash allocations could have different risk profiles. Case in point: a fund invested mainly in equities tied to commodities and in junk bonds will be more volatile than one invested in blue-chip U.S. based stocks and short-term government bonds.

While fund experts may have differed a bit on the on the amount of disclosure they wanted to provide investors on the investments of target date funds they all advocated the status quo when it comes to naming nomenclature. “We are concerned that the Commission’s proposal to add asset allocation information to the name of the fund will confuse rather than assist investors,” wrote Castille. He is concerned that many investors will mistake a short-hand asset allocation as of the target year as the current application of the fund.

Morningstar’s Pavlenko Lutton also urged the SEC to eliminate any requirement for changing how target date funds are named. That is because doing so might lead investors to erroneously believe that a target date fund’s asset allocation won’t shift after the retirement date.

“Requiring the addition of an asset allocation tagline to the name as proposed [by the SEC] would be unduly burdensome on those families that use active asset allocation and therefore would require an unwieldy display of ranges, rather than fixed asset allocations,” wrote Manning & Napier’s Coons. In addition, focusing strictly on asset allocation at the target date “unduly ignores the period following the target date.”


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