Sponsors Need to Chart a Safer Path to Manage Volatility and Limit Risk Exposure

Are target date funds “off target?” Many investors, legislators, and industry groups seem to think so. Ever since last year’s market downturn, when many investors close to retirement experienced steep losses, these strategies have been heavily criticized for failing to protect investors from the “storm.”

Rather than questioning the legitimacy of these strategies, we believe the industry should focus greater attention on the decision-making process behind target date fund selection.  Without a criteria to properly discern the differences among the funds—particularly their underlying asset classes and exposure to equities near retirement—sponsors will continue to expose participants to unacceptable levels of risk that can affect eventual outcomes—a point clearly demonstrated during the downturn.

Now is an opportune time for sponsors to review their current fund selection to assess how they have withstood recent volatility, and to assess how aligned their default solution is with plan goals and participants’ needs.  Advisors can help sponsors go beyond criteria such as fees and performance and examine factors such as participants’ behaviors and risk tolerance, which influence plans’ views on the desired level of diversification and equity exposure, especially at the critical retirement phase.

The optimal Compass position: where North meets West

JPMorgan’s Target Date Navigator and Compass provides a framework for advisors to help sponsors evaluate the appropriate level of equity exposure for participants at or near retirement, as well as asset class diversification.  Based on their assessment, sponsors can “plot” themselves in one of four target date quadrants, compare the appropriate funds, and narrow their selection to those funds most closely aligned with plan goals.

Of all the quadrants, the funds in the northwest quadrant may offer the best opportunity for participants to “weather the storm,” and get back on track following market losses.  In fact, these funds are well suited to address the behavior of more than 80% of participants who withdraw their money from savings plans when they retire.[1]

In contrast to the other quadrants, which have higher equity exposure at retirement and less diversification, the funds in the northwest quadrant seek to limit downside risk, reduce volatility, and potentially increase risk-adjusted returns through broader diversification and limited exposure to equities near, to, and at retirement date.

Help sponsors focus on projected outcomes

Although market volatility is not as severe as it was last year, sponsors still need to always “expect the unexpected” when it comes to volatility.  Last year’s market downturn reminds us that equities are a volatile asset class and exposure near and at retirement needs to be carefully managed.  Therefore, it makes sense for advisors to educate sponsors about “northwest” funds.  Because these funds may have greater ability to reduce volatility and potentially increase risk-adjusted returns, they can potentially create more optimal outcomes for participants.

The target date is the approximate date when investors plan to start withdrawing their money. Principal value of the fund(s) is not guaranteed at any time, including at the target date.

Important Disclosures:

The Navigator is designed to provide a framework for identifying and evaluating target date funds (TDF) that align most closely with a plan’s overall goals and its participants’ needs. The goal of the tool is to help plan sponsors assess their retirement plans’ desired level of equity exposure for participants at or near retirement and asset class diversification—two important characteristics of TDFs. The framework also encourages plan sponsors to understand, and consider, the characteristics and behaviors of their workforce as part of the target date selection process—factors that the Department of Labor (DOL) has also stated fiduciaries should take into account when designing the investment menu for a Defined Contribution Plan. The Navigator is meant to help in the due diligence process when evaluating TDFs for a plan. The Navigator is  not meant to replace the fiduciary responsibilities that are inherent with all plan sponsors. If the Navigator is used, it should be used as part of a comprehensive due diligence process. Exclusive reliance on the Navigator to make investment decisions is not recommended. The ultimate responsibility for choosing an investment option is that of the plan sponsor. J.P. Morgan takes no responsibility for the final investment decision. It is important to note: The intention of the tool is to help highlight the differences between target date funds in order to make informed comparisons.

IRS Circular 230 Disclosure:

JPMorgan Chase & Co. and its affiliates do not provide tax advice. Accordingly, any discussion of U.S. tax matters contained herein (including any attachments) is not intended or written to be used, and cannot be used, in connection with the promotion, marketing or recommendation by anyone unaffiliated with JPMorgan Chase & Co. of any of the matters addressed herein or for the purpose of avoiding U.S. tax-related penalties.

Opinions and estimates offered constitute our judgment and are subject to change without notice, as are statements of financial market trends, which are based on current market conditions. We believe the information provided here is reliable, but do not warrant its accuracy or completeness. This material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. The views and strategies described may not be suitable for all investors. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, accounting, legal or tax advice. References to future returns are not promises or even estimates of actual returns a client portfolio may achieve. Any forecasts contained herein are for illustrative purposes only and are not to be relied upon as advice or interpreted as a recommendation.

J.P. Morgan Asset Management is the marketing name for the asset management businesses of JPMorgan Chase & Co. Those businesses include, but are not limited to, J.P. Morgan Investment Management Inc., JPMorgan Investment Advisors, Inc., Security Capital Research & Management Incorporated and J.P. Morgan Alternative Asset Management, Inc.

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