Chal­leng­ing con­ven­tional wis­dom on tar­get date fund de­sign

Employee Benefit News - - CONTENTS - BY RICHARD STOLZ

Ron Surz, pres­i­dent of Tar­get Date So­lu­tions, de­tails the TDF in­dex he cre­ated.

RON SURZ, A STRONG AD­VO­CATE OF the “to re­tire­ment” tar­get-date fund glide path model, is pres­i­dent of ad­vi­sory firm Tar­get Date So­lu­tions. He earned an MBA in fi­nance from the Univer­sity of Chicago and an MS in ap­plied math­e­mat­ics from the Univer­sity of Illi­nois. Em­ployee Ben­e­fit News re­cently spoke with Surz about TDF de­sign and the fidu­ciary obli­ga­tions plan spon­sors face in re­tire­ment plan fund se­lec­tion. High­lights of that con­ver­sa­tion fol­low.

Em­ployee Ben­e­fit News: What dis­tin­guishes your in­dex from oth­ers?

Ron Surz: The other in­dexes are what I call con­sen­sus in­dexes. And so Morn­ingstar has them, S&P, Dow Jones, but they’re pri­mar­ily an assem­bly of what the tar­get-date fund in­dus­try is do­ing. Fidu­cia­ries who use those are ex­er­cis­ing “pro­ce­dural pru­dence,” by mea­sur­ing them­selves against what the in­dus­try is do­ing. But that’s not what I do. By us­ing what I think is the best glide path, I’m of­fer­ing some­thing to fidu­cia­ries who are try­ing to ex­er­cise “sub­stan­tive pru­dence”— do­ing the best you can, not just fol­low­ing the crowd.

EBN: Are you aware of any lit­i­ga­tion ini­ti­ated on be­half of plan par­tic­i­pants claim­ing that their TDF glide path was in­ap­pro­pri­ately de­signed to meet their needs, such as be­ing too heav­ily al­lo­cated to eq­ui­ties when par­tic­i­pants are close to or at re­tire­ment?

Surz: I think the an­swer is “al­most yes,” but I’m not aware of any­body specif­i­cally chal­leng­ing the glide path.

I do think there are law­suits out there right now that, among other things, ar­gue that the plan spon­sor did not vet their tar­get-date so­lu­tion.

So they didn’t shop at all, they didn’t look at many or any of the al­ter-

na­tives. Os­ten­si­bly the is­sue is about fees, but there’s a case in­volv­ing Van­guard, which has the low­est fees in the in­dus­try. They’re be­ing sued by their own em­ploy­ees, so it can’t be just about fees, it’s about the vet­ting process.

In gen­eral, it’s all about think­ing about what par­tic­i­pants re­ally need, which tar­get-date fund comes clos­est to do­ing the best for par­tic­i­pants, and not just go­ing with one of the big­gest bun­dled fund providers.

EBN: Why do you think there hasn’t been any lit­i­ga­tion specif­i­cally tied to a TDF’s glide path?

Surz: It has to do with harm. If a par­tic­i­pant has as­sumed a lot of risk with a high eq­uity al­lo­ca­tion, but due to good eq­uity mar­ket per­for­mance, hasn’t been harmed by the glide path, he won’t sue. I think it came close af­ter the crash in 2008. I spoke to sev­eral at­tor­neys in 2009 and 2010 who said there was harm, but peo­ple were fo­cused on other is­sues like fees. The next time there’s a big drop, I think it will be dif­fer­ent.

EBN: What is your guid­ing prin­ci­ple in de­sign­ing your TDF model?

Surz: As I have stated in the Fidu­ciary Hand­book for Un­der­stand­ing and Se­lect­ing Tar­get Date Funds, an e-book that I co-wrote with an ethi­cist and an ERISA at­tor­ney, cap- ital preser­va­tion should be the uni­ver­sal ob­jec­tive of TDFs. The Hip­po­cratic Oath of TDFs should be, “lose no money.”

EBN: That’s quite ev­i­dent in your own TDF model’s glide path, in which you take in­vestors to about a 90% cash al­lo­ca­tion when they hit the tar­get year, and put the onus on them to re­set their al­lo­ca­tion to what­ever they con­sider ap­pro­pri­ate at that time. But is there a sig­nif­i­cant risk that in­er­tia will set in and they won’t re­set their al­lo­ca­tion to what­ever’s most ap­pro­pri­ate?

Surz: One of the threats to re­tirees’ cap­i­tal preser­va­tion that seems to be un­der-ap­pre­ci­ated in the glide paths of most TDFs is some­thing called the “se­quence of re­turn” risk. The bot­tom line no­tion is if you’re about to start spend­ing, draw­ing down on that money, you care a real lot the se­quence that re­turns are earned.

If the loss is in­curred when re­tire­ment is 20 years down the road, that’s much less painful than hav­ing it hap­pen the very first year that you need to start draw­ing on that port­fo­lio.

EBN: Your phi­los­o­phy about risk and eq­uity ex­po­sure in TDFs cer­tainly sets you apart from your peers. Do you feel like a voice cry­ing out in the wilder­ness?

Surz: Yes, I do.

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