Active TDF managers push to compete on fees

Asset managers with actively managed target-date funds are pushing to lower fees in an environment of heightened cost sensitivity.

Litigation accusing employers of having high retirement-plan fees and the difficult-to-benchmark nature of TDF performance make fees stand out as one of the most important metrics for advisers and plan sponsors when selecting TDFs, experts said.

Firms with actively managed funds, often more expensive than those using a passive or mixed active-passive strategy, are under the most pressure.

Investment managers such as Putnam Investments are taking steps to compete more effectively. Putnam, for example, announced Tuesday the launch of a lower-cost share class — Class X — for its Retirement Advantage Funds, a series of actively managed collective investment trust funds with a fee of 0.35%. That’s down from about 0.50%, according to a company spokesman.

“The reality is you have to have low fees to be competitive,” said Jeff Holt, a multi-asset analyst at Morningstar Inc. “It’s like playing leap frog. The bar keeps getting lower.”

Target-date funds, a portfolio of stocks and bonds managed according to an investor’s envisioned retirement year, have become the most widely used default investment in defined-contribution plans over the past decade.

Target-date mutual funds held $1.16 trillion at the end of January 2018. That’s up from $116 billion in 2006.

Those firms using active management, by populating their TDFs with underlying funds that employ active stock-picking strategies, have been losing ground to their passively managed competitors, largely due to fee pressure.

Roughly two-thirds of money directed to target-date mutual funds in 2016 went to a passive series, according to Morningstar’s most recent annual TDF report.

Indexed TDFs gained further traction in 2017 — 44% of DC plans used a fully indexed TDF, up seven percentage points over the prior year, according to Callan, a consulting firm. On the other hand, only 30% of plans used an active fund, down from 37% the year prior.

Active managers have employed several strategies to make their funds more attractive to advisers and plan sponsors.

BlackRock Inc., Fidelity Investments, Charles Schwab Corp., Voya Financial and TIAA are examples of firms that have launched index TDFs as companions to their more actively managed series.

In mid-2016, Charles Schwab launched its Target Index funds at a cost of 0.08%, edging out Vanguard Group and Fidelity as the lowest-cost target-date mutual fund provider on the market.

Whereas the lowest-cost index TDFs fall in the 0.08% to 0.15% cost range, lower-cost actively managed products fall in the 0.40% to 0.60% range, Mr. Holt said.

The average asset-weighted expense ratio of actively managed target-date mutual funds was 0.71% at the end of 2017, according to Sway Research, which studies asset management distribution in DC plans.

Active managers such as Putnam have also launched their funds in collective investment trust funds, an investment vehicle only available for retirement plans. Reliable fee data on CITs isn’t readily available for the broad market, analysts said, but the funds often come with lower costs due partly to operational efficiencies over their mutual-fund counterparts.

J.P. Morgan Chase & Co., Allianz and AllianceBernstein are examples of other active-focused managers to have launched their TDFs in a collective-fund structure.

Some firms have also added exposure to passive funds to reduce costs.

“What people don’t want is to get into a situation where they’re disregarded because they didn’t pass the fee screen,” said Philip Chao, principal and chief investment officer at Chao & Co.

Burgeoning litigation targeting retirement-plan fees is one of the main drivers of fee sensitivity among retirement plan advisers and their clients.

The average asset-weighted expense ratio fell to 0.71% by the end of 2016, down from 0.99% only five years earlier, according to Morningstar’s annual TDF report.

Further, the in-flux nature of TDF glide paths, or how TDF asset allocations shift over time, and differences in underlying style categories make comparisons between TDFs more difficult than other 401(k) investments, according to experts.

“However, [it’s] fairly easy to compare and stack up versus fees,” Mr. Holt said.