The turbulent third quarter may leave target-date fund managers fondly recalling their flat second quarter.
The average target-maturity fund returned 0.6 percent in the second quarter, exceeding the S&P 500 Index’s 0.1 percent, but not the BarCap U.S. Aggregate Bond Index’s 2.3 percent, according to the Ibbotson Target Maturity Report 2Q 2011. But plan sponsors should not worry about that, says Tom Idzorek, global chief investment officer at Morningstar Investment Management. (Ibbotson is a unit of Morningstar.) Asked how much attention sponsors should pay to quarterly target-date fund performance, he says “very little,” adding, “What really affects the performance of the average target-date fund is, what did equities do during the quarter?” That does not bode well for their third-quarter results.
One-year performance tells a more important tale, Idzorek says. In the 12 months ended June 30, the average target-maturity fund returned 23.3 percent, compared with 30.7 percent for the S&P and 3.9 percent for the BarCap U.S. aggregate bond index. Sponsors also should focus on understanding the differentiators of performance, he says.
Taking on risk generally did not pay off for target-date funds in the second quarter, and some further-dated funds, funds with later target-dates, suffered small declines as a result. The lowest average return came in the 2050 category — 0.1 percent — followed by 0.2 percent for the 2045 funds. Income funds had the highest average return, at 1.2 percent, followed by followed by 2010 funds’ 1 percent.
Further-dated funds usually hold more equity than funds for people near or in retirement. “A number of the equity asset classes had negative returns,” Idzorek says. “It helped to be more in fixed income, and within fixed income, TIPS [Treasury Inflation-Protected Securities] were the standout performer.”
Target-maturity fund inflows increased 10.7 percent in the second quarter from a year earlier, to $10.8 billion. Flows declined from $16.6 billion in first-quarter 2011; Ibbotson attributes this mainly to annual company contributions made during the earlier quarter. The three biggest target-date providers all saw organic growth of their funds, Ibbotson says: 2.2 percent for Fidelity Investments, 2.9 percent for Vanguard Group and 3.5 percent for T. Rowe Price. Together, the three reaped more than 70 percent of net dollar flows in the second quarter.
In its target-date fund family ratings, Ibbotson moved JPMorgan Asset Management up from the “above average” category to the “top” category, where it joins American Funds, T. Rowe Price and Vanguard. Ibbotson cited J.P. Morgan’s consistent performance and corporate culture as reasons for the upgrade.
“We focus first and foremost on volatility,” Anne Lester, senior portfolio manager of JPMorgan’s SmartRetirement target-date funds, tells Institutional Investor. She refers to limiting volatility both for investors near retirement and in relation to the funds’ competitive universe. That means looking to assets with less correlation to equities, which she says has led to investments in areas like high-yield and emerging-markets debt, real estate investment trusts, emerging-markets equity, and commodities. “And we are funding these out of equity, not fixed income,” she says.
J.P. Morgan also tries to limit swings in returns by diversifying its manager selection. It aims to find managers that behave differently given the market conditions, Lester says. “That has been a significant source of both returns and volatility minimization,” she notes.
