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American Funds to offer target date funds

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By Kathie O'Donnell

December 4, 2006 6:01 am ET

BOSTON - American Funds, which long has resisted calls from retirement plan sponsors and others to offer target date retirement funds, plans to do just that early next year. Although the funds are unlikely to steal major assets from established players, they'll offer stiff competition to other newcomers, experts say.

Capital Research and Management Co., American Funds' adviser, plans to roll out nine target date - or life cycle - funds in February, pending regulatory approval. The funds are targeted to retirement dates in five-year increments from 2010 to 2050, and each will be a fund of funds that uses American's funds as the underlying investments.

Designed for the retirement plan market, the funds automatically will become more conservative as retirement dates near. Los Angeles-based Capital Research has no plans to offer a retail version of the American Funds Target Retirement Series, spokesman Chuck Freadhoff said.

Far from a bid to grab assets, American Funds is being pushed into the field by the Pension Protection Act of 2006 and by the liability protection it is expected to offer fiduciaries that automatically enroll plan participants in such funds, industry observers say.

The legislation, signed by President Bush in August, played a "huge" role in firms' decisions to offer life cycle funds, said Shauna Ginsberg, an analyst at Financial Research Corp., a Boston-based financial services consulting firm. But although the market is becoming more crowded, there's "definitely more room" for either new firms entering the market or for established players to add target date funds, she said.

But for American Funds, "taking business will be tough," said Steve Charlton, a managing partner at New England Pension Consultants, citing the solid grip companies such as Fidelity Investments, The Vanguard Group Inc. and T. Rowe Price Group Inc. have on that segment of the business.

A slow start

"My guess is that they will get a slow start," said Mr. Charlton, whose Cambridge, Mass.-based firm counsels its clients on how to allocate more than $225 billion in retirement and other money. "Lack of a track record will hurt them initially, and lack of a record-keeping business will keep them off of the radar screen relative to the large mutual fund houses that have their own proprietary record-keeping systems and target date funds," he said.

Ms. Ginsberg agrees that American Funds' new offerings are unlikely to take business from established target date funds at big firms. "They have complete respect industrywide, but at the same time, I don't think they are going to come in and all of a sudden trounce everyone else," she said.

Boston-based Fidelity introduced the first of its life cycle funds, Fidelity Freedom Funds, in 1996. The firm's combined target date fund assets - which include both its direct-sold Freedom Funds and Fidelity Advisor Freedom Funds - total more than $56 billion, FRC data show. Baltimore-based T. Rowe Price ranks a distant second in assets, with $13.5 billion, followed closely by Malvern, Pa.-based Vanguard, with $13.2 billion.

Total assets of target date funds, used for retirement and other goals, totaled $98.3 billion as of Sept. 30, according to FRC. That's up from $70.2 billion at the end of last year and $14.5 billion at the end of 2002.

Auto-enrollment

Even if they don't compete directly with the established players, American Funds' target date funds likely will present competition for smaller fund shops that recently have entered the market or plan to, Ms. Ginsberg said, citing RiverSource Investments LLC, a unit of Minneapolis-based Ameriprise Financial Inc. and JPMorgan Funds, a unit of New York-based JPMorgan Chase & Co., among others.

"Every quarter, there's at least a handful of firms that are launching products or adding to their existing product line, so you know the smaller companies that are just entering the market might have a tougher time building assets," she said.

"A really big part of all of these launches is that the auto-enrollment is going to spike, and auto-escalation [of contributions] is going to spike, and the fact that the default options are starting to be skewed to life cycle funds," Ms. Ginsberg said.

More than half of the assets in T. Rowe Price Retirement Funds, the first of which were introduced in 2002, come through 401(k) plans, T. Rowe Price spokesman Brian Lewbart said. A "fairly sizable amount" also comes from individual retirement account rollovers. T. Rowe's lineup comprises nine target date funds and a retirement income fund, he said.

"It is the fastest-growing product segment for us," Mr. Lewbart said. "If you were to add all of the retirement funds together, in aggregate, it would be our fourth-largest fund."

Asked whether T. Rowe is concerned about American Funds' entry into the target date market, Mr. Lewbart declined to comment.

There is some concern that flows into the new target date funds could drive up assets of already large underlying funds, making them difficult to manage.

"You have to be concerned about that when you see that they are launching these target retirement funds," said Paul Herbert, a senior mutual fund analyst at Chicago-based Morningstar Inc.

"I stop short of saying that I'm superconcerned or that it's a red flag, because I don't know for sure how much in assets these are really going to take in," he said.

American Funds says that it is vigilant on that point. "The question about size is a very legitimate one, and it's one that we ask ourselves every day," Mr. Freadhoff said. "So far, we don't see any evidence of it."

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