Sizing Up Target Date Funds

Transcription

1 Sizing Up Target Date Funds Investments are not FDIC-insured, nor are they deposits of or guaranteed by a bank or any other entity, so they may lose value.

2 Presenters Thomas W. Rose is a relationship manager at Capital Group. He has 13 years of investment industry experience and has been with Capital Group for eight years. Earlier in his career at Capital, Tom was a portfolio specialist. Prior to joining Capital, he was a marketing specialist for AXA Financial, Inc. in New York. He holds a bachelor s degree in human and organizational development from Vanderbilt University. He also holds the Chartered Financial Analyst designation. Tom is based in Los Angeles. Toni Brown is a senior defined contribution specialist at American Funds, part of Capital Group. She has 24 years of investment industry experience and joined Capital Group in Prior to joining Capital, Toni was the director of U.S. client consulting and the U.S. defined contribution leader for Mercer Investment Consulting. Before that, she was a senior investment consultant at Callan Associates with management responsibilities for the San Francisco consulting office and the firm s defined contribution practice. She holds an MBA from Arizona State University and a bachelor s degree in general business from the University of Denver. She also holds the Chartered Financial Analyst designation. Toni is based in San Francisco. Rich Lang is a target date investment specialist at Capital Group. He is also responsible for working with the investment group in the creation and ongoing monitoring of Capital s fund-of-funds offerings. He has 20 years of investment industry experience, all with Capital Group. Earlier in his career at Capital, Rich was a marketing statistics associate. Prior to joining Capital, he was a funding specialist with Dai-Ichi Kangyo Bank. He holds both a master s and bachelor s degree in finance from Loyola Marymount University. Rich is based in Los Angeles. The statements expressed herein are informed opinions, are as of the date noted, and are subject to change at any time based on market or other conditions. They reflect the view of an individual and may not reflect the view of the Capital organization. This information is intended merely to highlight issues and not to be comprehensive or to provide advice. Permission is given for personal use only. Any reproduction, modification, distribution, transmission or republication of the information, in part or in full, is prohibited. 1

3 Improving the Target Date Evaluation Process Agenda The target date landscape Challenges of comparing target date funds DOL tips on selecting target date funds The fundamental challenge: balancing longevity and market risk Useful volatility and risk-adjusted metrics to consider Ideas for action 2

4 The Target Date Landscape 3

5 Target Date AUM Retirement Legislation Has Fueled Growth Target Date Mutual Fund Net Assets (USD billions) $689 billion Pension Protection Act August Sept 9/05'05 Jun 6/06 '06 Mar 3/07 '07 Dec 12/07 '07 Sept 9/08'08 Jun 6/09 '09 Mar 3/10 '10 Dec 12/10 '10 Sept 9/11 '11 Jun 6/12 '12 Mar 3/07 '13 Dec 12/07 '13 Source: Morningstar. As of June 30,

6 Longer Track Records Within the TD Universe 65% of 2020 Funds Have a Track Record of at Least Five Years 2020 Funds by Length of Track Record Total glide paths in universe: 52 17% > 10 years 25% < 3 years 31% 7 to 10 years 17% 5 to 7 years 10% 3 to 5 years Source: Morningstar. As of September 30,

7 Types of Target Date Funds Meaningful Choice Available in the Marketplace Terminal Asset Allocation To fund managed to the point of retirement Through fund managed after retirement Strategy Active Passive Mixed Architecture Proprietary Open Custom Vehicle Mutual fund Collective investment trust Separate account 6

8 The Challenge of Comparing Target Date Funds 7

9 The Challenge of Varying Glide Paths How Do You Compare Funds With Very Different Asset Mixes? A Sample of Glide Paths from the Largest Target Date Funds Percentage of assets in equity by vintage Retire Years to/after retirement Source: Morningstar. As of June 30,

10 The Challenge of Peer Comparisons Equity Exposure Varies Widely Among Funds Average, Maximum and Minimum Equity Allocations Among Target Date Funds 100% Source: Morningstar. As of June 30,

11 The Challenge of Shifting Participant Needs Retirement Realities Change Throughout the Savings Cycle Pre-Retirement Retirement Retirement realities Market shocks Inflation Consumption patterns Years in retirement Health care Retirement year Less critical More critical 10

12 DOL Target Date Tips for Plan Sponsors Have a Process, and Understand the Fees and Glide Path Establish a process Comparing and selecting Periodic review Key components Glide path Results Underlying managers Fees Plan-specific factors Employee demographics Defined benefit plan? Explore custom Employee communications Document, document, document 11

13 The Fundamental Challenge: Balancing Longevity and Market Risk 12

14 Equities Come With a Trade-Off Balancing Risk Equity exposure Longevity risk Market risk 13

15 Equities Come With a Trade-Off Balancing Risk Equity exposure Market risk Longevity risk Market risk 14

16 Equities Come With a Trade-Off Balancing Risk Equity exposure Longevity risk Market risk Equity exposure Longevity risk Market risk 15

17 Useful Volatility and Risk-Adjusted Metrics to Consider 16

18 A Road Map of the Metrics We Will Compare Three Different Target Date Series: Series To or Through Equity at Retirement Series A Through Higher Series B Through Middle Series C To Low Five Volatility and Risk-Adjusted Metrics Volatility Standard deviation Downside deviation Risk-adjusted metrics Sharpe ratio Sortino ratio Retirement Efficiency Ratio Source: Morningstar. As of June 30,

19 A Look at Three Large Target Date Series Series A and B Are Through Series, While Series C is a To Series Percentage of Assets in Equity in Three Glide Paths As of 6/30/ Retire Years to/after retirement Series A Series B Series C Source: Morningstar. As of June 30, Retirement corresponds to 2015 funds. 18

20 Looking at Three Stages of the Glide Path We Will Compare Three Different Vintages Age Retirement Source: Morningstar. As of June 30,

21 Volatility Measures 20

22 Standard Deviation Variation Around the Average Five-Year Standard Deviation As of 6/30/14 Standard deviation Series A Series B Series C % equity Source: Morningstar. As of June 30, Highest equity Lowest equity 21

23 Downside Deviation Variation Below the Average Five-Year Downside Deviation As of 6/30/14 Downside deviation Series A Series B Series C % equity Source: Morningstar. As of June 30, Highest equity Lowest equity 22

24 Some Equities Have Been More Volatile Volatility Can Depend on Geography, Market Cap and Dividends Standard Deviation Based on monthly returns from December 31, 1989, to December 31, Barclays U.S. Aggregate Index Global dividend growers Global dividend payers Global dividend non-payers S&P 500 Russsell 2000 Index (small cap) MSCI Emerging Markets Index Results for global dividend payers, growers and non-payers are based on the weighted average of total returns in USD (with gross dividends reinvested) of a global universe of companies for the period December 31, 1989, to December 31, The universe consists of the 1,000 largest companies in the S&P Global BMI indexes for North America (50% weight), Europe (25%), Japan (10%) and the 500 largest companies for emerging markets (10%) and Pacific ex Japan (5%) from December 1989 to December 2004, and the 1,000 largest companies in the MSCI IMI indexes for North America, Europe and Japan and the 500 largest companies for emerging markets and Pacific ex Japan thereafter. The universe constituents are rebalanced quarterly. Volatility reflects annualized standard deviation of monthly total returns. Past results are not predictive of results in future periods. A 12/31/89 start date was chosen for the analysis because the S&P Global BMI indexes were launched that year. Results for other indexes are for the period December 31, 1989, to December 31, MSCI EM index includes gross dividends reinvested through December 31, 2000, and net dividends reinvested thereafter. S&P Index includes income reinvested. Sources: FactSet, Compustat, Worldscope, MSCI, Capital Group. 23

25 Risk-Adjusted Metrics 24

26 Sharpe Ratio: Measuring Risk-Adjusted Results Sharpe ratio = - = Return per unit of risk Same Sharpe ratios, different return profiles 0.85 = - =. % % =. % % The keys to comparing Sharpe ratios of two funds: Must analyze ratios in the total context of the glide path. Must look at both components return and risk 25

27 Sharpe Ratio Return Per Unit of Risk Five-Year Sharpe Ratios As of 6/30/14 Sharpe ratio Series A Series B Series C % equity Source: Morningstar. As of June 30, Highest equity Lowest equity 26

28 Comparing Sharpe Ratios Sharpe Ratio Grows in Importance as You Approach Retirement 2050 Accumulation 2025 Transition 2015 Retirement A B A B A B Sharpe ratio 1.18 < < < 1.51 Annualized return (%) 16.9 > > > 12.5 Standard deviation 14.0 > > > 8.0 % of fund in equity 87 > > > 52 Source: Morningstar. Annualized returns, standard deviations and Sharpe ratios are for the 5-year period ended June 30, Percentage of fund in equity as of June 30, Returns and standard deviation rounded to nearest 10th decimal place. 27

29 Comparing Sharpe Ratios Sharpe Ratios Help Clarify a Fund s Relative Risk-Return Advantage 2050 Accumulation 2025 Transition 2015 Retirement C B C B C B Sharpe ratio 1.15 < < < 1.51 Annualized return (%) 16.4 > < < 12.5 Standard deviation 14.0 > > > 8.0 % of fund in equity 81 < < < 52 Source: Morningstar. Annualized returns, standard deviations and Sharpe ratios are for the 5-year period ended June 30, Percentage of fund in equity as of June 30, Returns and standard deviation rounded to nearest 10th decimal place. Basis point differences rounded to nearest

30 Comparing Sharpe Ratios Similar Sharpe Ratios, But Different Return Profiles 2020 Transition Sharpe ratio 1.38 < 1.42 Annualized return (%) 9.5 < 13.5 Standard deviation 6.7 < 9.2 % of fund in equity 29 < 59 D B Source: Morningstar. Annualized returns, standard deviations and Sharpe ratios are for the 5-year period ended June 30, Percentage of fund in equity as of June 30, Returns and standard deviations rounded to nearest 10th decimal place. 29

31 Sortino Ratio Measures Return Per Unit of Downside Risk Sortino ratio = - = Return per unit of downside risk The Sortino ratio focuses on how well a fund has protected in down markets. 30

32 Sortino Ratio Return Per Unit of Downside Risk Five-Year Sortino Ratios As of 6/30/14 Sortino ratio Series A Series B Series C % equity Source: Morningstar. As of June 30, Highest equity Lowest equity 31

33 Retirement Efficiency Ratio Measuring Equity Per Unit of Risk Retirement efficiency ratio: = Hypothetical example: % = 32

34 Retirement Efficiency Ratio Equity Per Unit of Risk Retirement Efficiency Ratios As of 6/30/14 Efficiency ratios 10 Series A Series B Series C Highest equity Lowest equity Source: Morningstar. As of June 30, Ratio reflects the percentage points of the fund allocation in equity divided by the fund s three-year standard deviation as of June 30, Equity exposure percentage was calculated as monthly average for the three years ended June 30,

35 Ideas for Action A Summary of Today s Discussion Understand DOL tips Establish your process Know your target date series Incorporate volatility and risk-adjusted metrics Volatility metrics Standard deviation Downside deviation Risk-adjusted metrics Sharpe ratio Sortino ratio Retirement Efficiency Ratio Document, document, document 34

36 Q&A 35

37 Thank you. For more information, call (800) or visit americanfunds.com 36

38 Investors should carefully consider investment objectives, risks, charges and expenses. This and other important information is contained in the fund prospectuses and summary prospectuses, which can be obtained from a financial professional and should be read carefully before investing. For an investment offered through a group annuity, some of this information may differ and can be obtained from a financial professional. 37

39 Allocation percentages and the underlying American Funds of the target date funds are subject to the Portfolio Oversight Committee s discretion and will evolve over time. Underlying funds may be added or removed during the year. For quarterly updates of the underlying fund allocations, visit americanfundsretirement.com. Investment professionals continue to manage each fund for 30 years after it reaches its target date. Although the target date funds continue to be managed for investors on a projected retirement date time frame, the funds allocation strategy does not guarantee that investors retirement goals will be met. 38

40 American Funds investment professionals actively manage the target date fund s portfolio, moving it from a more growth-oriented strategy to a more income-oriented focus as the fund gets closer to its target date. The target date is the year in which an investor is assumed to retire and begin taking withdrawals. Investment professionals continue to manage each fund for 30 years after it reaches its target date. Annualized standard deviation (based on monthly returns) is a common measure of absolute volatility that tells how returns over time have varied from the mean. A lower number signifies lower volatility. Sharpe ratio uses standard deviation and excess return to determine reward per unit of risk. The higher the number, the better the portfolio s historical risk-adjusted performance. Investing outside the United States involves risks such as currency fluctuations, periods of illiquidity and price volatility, as more fully described in the prospectus. These risks may be heightened in connection with investments in developing countries. Small-company stocks entail additional risks, and they can fluctuate in price more than larger company stocks. 39

41 Lower rated bonds are subject to greater fluctuations in value and risk of loss of income and principal than higher rated bonds. The return of principal for bond funds and for funds with significant underlying bond holdings is not guaranteed. Fund shares are subject to the same interest rate, inflation and credit risks associated with underlying bond holdings. While not directly correlated to changes in interest rates, the values of inflation-linked bonds generally fluctuate in response to changes in real interest rates and may experience greater losses than other debt securities with similar durations. Investments in mortgagerelated securities involve additional risks, such as prepayment risk, as more fully described in the prospectus. Bond prices and a bond fund s share price will generally move in the opposite direction of interest rates. Shares of U.S. Government Securities Fund are not guaranteed by the U.S. government. All American Funds trademarks in this presentation are owned by American Funds Distributors, Inc., an affiliated company or a fund. All other company and product names are the trademarks or registered trademarks of their respective companies. 40