Defined contribution plan participants who hold a target-date fund along with other investments in their accounts might not be misusing or misunderstanding this option. Their mixing of investments can reflect a specific investment strategy, new research from Vanguard Group Inc. finds.
“We don't necessarily agree” with some DC industry members who say participants only need one target-date fund in their accounts, said Cynthia Pagliaro, senior research analyst for Vanguard's Center for Investor Research in Malvern, Pa. In many instances, participants who mix a target-date fund and other options “seem to be conducting reasonable investment practices,” she said.
To be sure, as target-date funds have grown in popularity, the percentage of pure target-date investors — those DC participants relying solely on a single target-date fund — has grown compared to what Vanguard calls mixed target-date investors. The split between the two groups was 50%-50% in 2010 among plans that offered target-date funds, Ms. Pagliaro said. By year-end 2015, the pure versus mixed split was 62%-38%, according to the latest available data from Vanguard clients. Vanguard analyzed data from 3.8 million participants in approximately 1,650 plans offering target-date funds.
The growth in pure target-date fund investing is due primarily to plans' use of auto enrollment, placing participants in a target-date fund as a qualified default investment alternative and to new plan participants choosing a target-date fund, she said.
Vanguard's analysis is contained in a research report — co-authored by Ms. Pagliaro and Stephen Utkus, principal and head of the Center for Investor Research — that was issued in January. It examined off-the-shelf target-date funds offered by Vanguard and other providers.
The largest component of the 38% mixed group — 31% — holds one target-date fund plus one or more other investment options. The other 7% represents participants who have multiple target-date funds or several target-date funds plus other investment options.
Noting the small sample size of the 7% group, Ms. Pagliaro said she couldn't explain why some participants invest in multiple target-date funds. These investors “demonstrate a fundamental misunderstanding of how target-date funds work,” she said. One possibility is that some investors aren't sure when they will retire, so they choose two target-date funds to hedge their bets, she added.
Members of the 31% group are the investors who make their own strategic decisions or who are affected by the sponsor's plan-design actions.
For the latter category, a corporate match in company stock was the most prominent example.
Another example is a menu change, such as a sponsor eliminating an investment option and mapping the assets to a target-date fund QDIA. “As a result, participants who previously held an investment in a non-target-date option may have those assets transferred to a target-date option,” said the Vanguard report.
When sponsors act, participants might not act. “People choose not to undo them,” Ms. Pagliaro said. “People are probably not paying attention.”
Participants who are intentional mixed target-date investors “appear more engaged” in making investment decisions, she added.
Vanguard identified five specific behaviors for the intentional group's actions, adding that the latest data confirm what Vanguard noticed in a similar 2010 report.
For example, conservative cash investors hold 69% of their money in stable value and money market options, using target-date funds for 21% of account assets. They are the oldest and longest-tenured of the five groups.
Conservative bond investors allocate 61% of assets to bonds, while target-date funds represent 30% of their asset allocation.
Aggressive equity investors' emphasize equities, with target-date funds accounting for 27% of assets.
So-called core/satellite investors hold 75% of assets in target-date funds, making them the only mixed investor group using target-date funds as a core holding. They tend to be younger and have lower balances. Their overall assets are heavily weighted to equities.
The one group “we worry about,” Ms. Pagliaro said, is “excessively diversified” investors. On average, these participants invest heavily in equities and put 23% of account assets in target-date funds. They own an average of 8.3 funds — well above the averages of each of the other groups.
“This group is at the greatest risk of overdiversification, holding so many funds that they run the risk of having duplicate and unnecessary holdings,” said the Vanguard report.
Robert Steyer is a reporter for InvestmentNews' sister publication, Pensions & Investments.