TDFs Take Heat for ‘Risky’ Asset Allocation

A report from Meketa Investment Group calls out target date funds for high levels of public equity exposure.

Some of the largest target date funds (TDFs) are taking on too much risk, according to a report by Meketa Investment Group.

According to the report, the three largest “off-the-shelf” TDF providers maintain “radical levels of public equity exposure.” These TDFs, which collectively account for over 70% of target date fund assets, include Vanguard (Target Retirement), Fidelity (Freedom), and T. Rowe Price (Retirement).

For TDFs intended for investors with a 10-year investment timeframe, Fidelity maintains a 70% stake in public equities, while Vanguard and T. Rowe Price have invested 67% and 69% of their portfolios in the sector, respectively.

The 2035 TDFs for these three providers, meanwhile, average a public equity allocation of nearly 85%—more than twice that of defined benefit (DB) pension plans.

At the end of 2013, only 42% of DB pension assets were allocated to public equity, according to Towers Watson.

“That the three largest off-the-shelf target date fund managers allocate relatively short term assets more aggressively than pension funds raises concerns,” wrote Marc Fandetti, principal at Meketa. “Either pensions are taking far too little risk, or 2025 target date fund investors far too much.”

Fandetti asserts this level of equity exposure provides little downside protection to investors, noting that the largest funds underperformed the US. stock market on average in 2008 and 2011.

“It is doubtful either that the public equity levels of the largest (and thus most) TDFs are appropriate, or that investors expect 2035 funds to behave like 100% stock investments,” Fandetti wrote.

The root of the problem, Fandetti concludes, is an absence of viable alternative investment vehicles for individual retirement account investors—although this absence does not excuse “unsuitably high allocations to public equities,” he adds.

“Retirement savers need and deserve better choices,” Fandetti wrote.

Related: Target Risk Funds: A Substitute for TDFs?  

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