While he agrees with the logic of long-term benchmarking, Ripsman says a short-term measure is still necessary. “In terms of protecting plan sponsors from liability, they have to have some mechanism of just making sure that short-term performance makes sense.” (Incidentally, Vanguard refers to its indexes as “additional and complementary” to short-term benchmarks.)
Quantitative and Qualitative
Although quantitative performance measures are important from a plan sponsor’s perspective, it really comes down to more qualitative factors such as the people and the process, says Dianne Tamburro, senior consultant, investment consulting practice, with Hewitt Associates. “I think this is the first time when plan sponsors had to rely on their gut and go with qualitative factors without the quantitative [factors] to support it, necessarily.”
However, these qualitative aspects take more “homework,” says Chiappinelli. “There isn’t this nice little number to the second decimal point.” Plan sponsors need to investigate factors such as the investment team’s experience and skill set, as well as the aggressiveness of the glide path. (For more qualitative TDF factors, go to www.benefitscanada.com/extras.)
Even if TDFs are benchmarked well against qualitative factors, there is the risk that members will “set it and forget it” in terms of contribution levels. “Members need to ensure that the amount they contribute continues to be appropriate,” says Tamburro. “What if a fund has a 100% return but you didn’t invest in it? One hundred percent of zero dollars is zero dollars.” Bare agrees. “There’s no benchmark or investment product that can meet your goal for you if you don’t put enough money in,” he says.
Challenges of Benchmarking
One issue, at least in the U.S., is the question of specifics. Guidelines for asset allocation in TDFs are insufficient. “The only mandate for a QDIA [qualified default investment alternative] for TDFs is that they have both stocks and bonds and there are fewer stocks as time progresses,” says Ron Surz, a principal with Target Date Analytics. With no other directives, that leaves each manager to make asset allocation assumptions to determine a suitable glide path in which to take members from equities to bonds.
All investment managers make certain assumptions on what an appropriate asset allocation could be, says Dan Farley, managing director and head of the U.S. allocation team with State Street Global Advisors. “One manager would make the case that at age 65, the most important thing is wealth preservation, and another manager says the most important thing is longevity risk,” he notes. “The reality is, both are reasonable cases to make.”
And who’s to say which assumptions are right? “If you look at our competitors’ indexes, they assume an asset allocation—and it may be a good asset allocation,” says Liz Taxin, director, custom and strategy indexes, with S&P. “But the point is, they’re assuming an asset allocation, then creating a benchmark based on that.”
S&P, by contrast, bases its indexes “on a survey of the market consensus as to what the asset allocation should be for each of those particular [target] dates,” says Tim Eisenhauer, vice-president, custom and strategy indexes, with S&P.
“S&P has indexes that are reflections of industry practices,” says Surz. “That’s one way to do a benchmark—but that presumes industry practices are the right thing to do.”
One for All?
Will there ever come a time when there will be one accepted standard industry benchmark for TDFs, much like the S&P/TSX is for Canadian equities?
“We’re very open to the idea that someone could come up with a better benchmark,” says Chiappinelli, “[but] I struggle with what it would look like.” Sharma agrees. “Can you have a universal benchmark for, say, 2040 funds? The answer would be no, because some 2040 funds could be over 100% in equities; others might [have] 70% equities. So, what would be the right universal benchmark against which to compare those?”
Chiappinelli says someone may propose a “naïve” (a simple 60/40 balanced) portfolio as an appropriate benchmark. “Maybe that’s a way to go. But that’s flawed because it won’t give any meaningful assessment,” he says. “If stocks are going up for a sustained period, the 60/40 mix will underperform the ‘equity-heavy’ 2045, 2040 funds but outperform the ‘equity-light’ funds such as 2005, 2010. The reverse will be true if we enter a prolonged bear market. Does that make the target-date rolldown better or worse? We simply don’t know.”
Others don’t see TDFs as a one-benchmark fund. “As far as one index intended to benchmark a wide variety of different TDF families, all the data and industry practice seem to point to no,” says Janet Yang, an investment product manager with Northern Trust Global Investments. “TDFs are so dependent on individual fund families and their unique asset allocation process and glide paths.”
Ripsman agrees. “I don’t know that you’ll be able to find one universal standard that you can measure against,” he says. “And that’s what the industry’s grappling with right now. They want some sort of gold standard or universal comparator, which makes things easier and makes intuitive sense.”
For now, it seems the benchmarking solutions for TDFs will remain as diverse as the TDFs themselves—and it will remain a challenge for plan sponsors to determine which funds truly make the grade.
Brooke Smith is associate editor of Benefits Canada.
brooke.smith@rci.rogers.com
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© Copyright 2009 Rogers Publishing Ltd. This article first appeared in the June 2009 edition of BENEFITS CANADA magazine.