Strategic Diversification for a Lifetime Principal LifeTime Portfolios The Principal LifeTime portfolios were launched in response to participants increasing interest in having Do It For Me investment options available within their employers defined contribution retirement plans. Launched in 2001, the Principal LifeTime portfolios provide investors with access to well-diversified portfolios that automatically shift to traditionally more conservative underlying assets over time to reduce key financial risks as each portfolio s time horizon decreases. Our proposition is that the Principal LifeTime portfolios can offer meaningful benefits to many investors by capitalizing on two competitive strengths of the Principal Financial Group (Principal ) a strong retirement heritage combined with a high-quality approach to institutional asset management in a diversified investment option. The Principal LifeTime portfolios, which are target date portfolios, invest in underlying Principal Funds, Inc., institutional class shares. Each Principal LifeTime portfolio is managed toward a particular target (retirement) date, or the approximate date an investor expects to start withdrawing money. * Each portfolio reflects what the managers believe to be an optimal asset class mix a combination of equity, fixed income and real estate for the respective target date. The Principal LifeTime portfolios series consist of distinct investment options staged in 5-year increments. Like other target date (lifecycle) offerings, each Principal LifeTime portfolio gradually becomes more conservative by increasing its exposure to traditionally more conservative underlying investment options and reducing its exposure to more aggressive underlying investment options as the target date nears. The initial design and ongoing management of the Principal LifeTime portfolios are a collaborative effort of the investment teams of Principal Management Corporation and Principal Global Investors. Principal Global Investors the asset management unit of Principal is responsible for developing and monitoring the strategic or long-term asset class targets and rebalancing ranges for each Principal LifeTime portfolio. The investment team at Principal Management Corporation is responsible for portfolio construction decisions and the selection and monitoring of each underlying investment option. The successful collaboration between Principal Management Corporation and Principal Global Investors (both member companies of the Principal Financial Group) in the development, design and ongoing management of the Principal LifeTime portfolios has led to more than $26 billion in client assets and more than 1 million participating investors as of March 31, 2016. Principal LifeTime Portfolios April 2016 *Retirement assumed to begin at age 65 unless Plan s Normal Retirement Date is different.
Principal LifeTime Portfolios April 2016 2 Investment Philosophy and Process The Principal LifeTime portfolios embrace a multi-asset-class, multi-style and multi-manager strategy while providing broad diversification and an institutional-quality investment approach. The Principal LifeTime portfolios have the following key attributes: Extensive diversification across core and specialty asset classes. Multiple underlying investment managers representing a range of asset classes, investment styles and money management firms. A structured investment strategy, with disciplined risk management at each stage of the investment process. The philosophies that guide the asset allocation, rebalancing and underlying asset selection/monitoring processes are instrumental to the long-term success of the Principal LifeTime portfolios. Our asset allocation and rebalancing philosophies are best described as strategic since they are based on the long-term equilibrium relationships between investment return and risk. Additionally, certain dynamic elements are introduced in the rebalancing stage of the process with the goal of enhancing overall returns and minimizing volatility. Our philosophy for selecting and monitoring underlying investment managers is based on our belief that certain attributes explain manager success through time, including organizational and team stability, strong leadership, streamlined decision making, a well-articulated investment philosophy and a systematic and adaptive investment process. Asset allocation, rebalancing and underlying asset selection/monitoring processes are instrumental to the long-term success of the Principal LifeTime portfolios. The investment advisor s investment philosophy and strategy may not perform as intended and could result in a loss or gain. Not FDIC Insured May Lose Value Not a Deposit No Bank Guarantee Not Insured by Any Federal Government Agency
Four-Step Investment Process Step 1: Asset Class Selection Step 2: Glide Path Structure Step 1: Asset Class Selection Step 3: Portfolio Construction Step 4: Disciplined Rebalancing Principal LifeTime Portfolios April 2016 3 The first step in our investment process is the selection of asset classes and corresponding benchmarks. Every asset class used in the Principal LifeTime portfolios must meet certain eligibility requirements, such as: Risk premiums are commensurate with the asset class risk profile. The asset class provides incremental diversification benefits. Suitable implementation vehicles exist that permit efficient access to the asset class. Every asset class also has a clearly defined role in our asset allocation strategy such as: Capital appreciation Income generation Diversification Inflation hedge Capital preservation Liquidity
Principal LifeTime Portfolios April 2016 4 Diversified Income Diversified Real Assets High Yield Fixed Income Short-Term Fixed Income CORE U.S. Equities Non-U.S. Equities Fixed Income Inflation Protected Emerging Markets Equities Alternative Strategies Preferred Securities Within this framework, the Principal LifeTime portfolios utilize eleven primary asset classes: U.S. Equities, Developed Non-U.S. Equities, Global Emerging Markets Equities, Diversified Real Assets (including Real Estate), Alternative Strategies, High Yield Fixed Income, Preferred Securities, Core Fixed Income, Inflation-Protected Fixed Income, Diversified Income and Short-Term Fixed Income. Step 2: Glide Path Structure The second step in our investment process is the design of the glide path for the Principal LifeTime portfolios. To develop the glide path, Principal Management Corporation analyzes several investing and spending scenarios using proprietary capital market assumptions and a variety of optimization and stochastic modeling tools (i.e., Monte Carlo simulations, mean/variance optimization and downside risk analysis). This analysis was organized using a life stage framework that divides a person s financial lifespan into four segments: Early Career, Prime Career, New Retiree and Senior Retiree. The glide path reflects what Principal Management Corporation believes to be the optimal asset allocation mix that balances various financial risks throughout the time horizon of the Principal LifeTime portfolios. These key risks are defined as savings shortfall risk, market risk, inflation risk and longevity risk.
Each risk is managed differently, depending on the time horizon for each of the Principal LifeTime portfolios. The resulting framework encompasses a total investment time horizon of roughly 80 years, including up to a 50-year working career and more than 25 years in retirement. The following chart depicts the asset class targets and overall glide path for the Principal LifeTime portfolios. PRINCIPAL LIFETIME PORTFOLIOS TARGET ALLOCATIONS OVER TIME* 100% Fixed Income Real Assets/Other** U.S. Equity Non-U.S. Equity 48% 8% 30% 14% 73% 7% 13.5% 6.5% Fixed Income Real Assets/Other** U.S. Equity Non-U.S. Equity Principal LifeTime Portfolios April 2016 5 90% 80% 70% 60% % OF TOTAL ASSETS 50% 40% 30% 20% 10% TARGET DATE (Assumed Retirement) 0% 50 45 40 35 30 25 20 15 10 5 0 5 10 15 20 YEARS TO RETIREMENT YEARS AFTER RETIREMENT FIXED INCOME REAL ASSETS/OTHER** U.S EQUITY NON-U.S. EQUITY Neither the principal nor the underlying assets of the Principal LifeTime portfolios is guaranteed at any time, including the target date. Investment risk remains at all times. The glide path is not linear during the accumulation or spending phases because the rate of risk reduction is not constant through time. In the early accumulation years, the rate of risk reduction is modest since higher equity allocations are intended to maximize growth. During the later accumulation years, the glide path slope becomes much steeper, which suggests the rate of substitution is accelerating.
Principal LifeTime Portfolios April 2016 6 The most important investment risk for Early Career savers is shortfall risk: the risk of failing to save and invest aggressively enough to adequately fund retirement spending. This acceleration reflects our belief that equity allocations should fall more rapidly as mid-life savers become increasingly more sensitive to market risk, as their asset balances may have grown and their retirement date also is approaching. In later post-retirement years, the capital preservation attributes of cash and fixed income strategies become more desirable. Accordingly, the rate of risk reduction declines again and the equity glide path becomes flat. Accumulation Phases Early Career and Prime Career The most important investment risk for Early Career savers (usually those in their 20s and 30s) is shortfall risk, which is defined as the risk of failing to save and invest aggressively enough to adequately fund retirement spending. Despite a long investment horizon, Early Career savers are also subject to market risks and may adjust their retirement plans due to short-term market volatility. To properly balance shortfall and market risk, the asset allocation mix is diversified across equity, fixed income and real estate portfolios. A small, yet strategic, allocation to high yield, preferred and real estate securities allows for proper diversification to help minimize large losses, with the goal of adding incremental yield. Prime Career savers (typically early 40s through early 60s) are subject to the same risks as Early Career savers. However, we believe their true level of market risk aversion is higher than that of Early Career savers because, by this time, most Prime Career savers may have accumulated substantial assets and their retirement date is rapidly approaching. Therefore, we believe Prime Career savers seek balance between continued wealth accumulation and a desire to avoid significant capital losses in the years remaining until retirement. To address shortfall and market risk during these years, the slope of the Principal LifeTime glide path becomes steeper, which suggests a greater level of change within the equity and fixed-income asset classes. Inflation protection securities are also introduced at this stage to help minimize losses and to help preserve real purchasing power.
Spending Phases New Retiree and Senior Retiree As they transition into their early retirement years (typically mid 60s to late 70s), New Retirees face the delicate task of balancing market risk with longevity and inflation risk. Longevity risk is the chance of outliving assets, while inflation risk is the risk of losing real purchasing power to inflation over time. New Retirees are most vulnerable to longevity risk at retirement because this is when the potential spending horizon is the longest. Therefore, various annual spending rates (4%, 5% and 6%) were analyzed for the glide path formation. The dominant risk for Senior Retirees (typically, age 80+) is market risk because a larger percentage of their savings has usually been depleted and the remaining balance is needed to fund their continued spending. Thus, the equity glide path flattens and the asset class mix favors capital preservation. Principal LifeTime Portfolios April 2016 7 Using this framework along with its dynamic asset allocation model, Principal Management Corporation is able to evaluate each of the key risks simultaneously within each of a participant s four life stages. The asset allocation targets are further refined to help ensure the Principal LifeTime portfolios land on the efficient frontier. 1 Step 3: Portfolio Construction The third step in the investment process is the selection and monitoring of the Principal LifeTime portfolios underlying investment options and investment managers. Our proprietary manager selection and monitoring processes provide a rigorous and disciplined framework for identifying, hiring and retaining premier investment managers within each asset class and investment style. When selecting the underlying managers for the 1 The efficient frontier is a curved line plotted on a risk/return graph that represents the optimal portfolios as determined from a risk/reward analysis. The optimal portfolios plotted along the curve are expected to potentially deliver the highest return possible for the given level of risk. The efficient frontier for the Principal LifeTime portfolios is generally representative of the potential long-term risk/ return relationships of the Principal LifeTime portfolios with their current asset allocation. Note: The asset allocation of the Principal LifeTime portfolios will change over time and there is no guarantee that future risk/return performance will be consistent, especially over shorter time periods. No portfolio has zero risk, and none guarantees any specific reward.
Principal LifeTime Portfolios April 2016 8 Principal LifeTime portfolios, the portfolio management team seeks to create diversified portfolios within each asset class and investment style. Within each asset class or investment style, the team also focuses on identifying sub-advisors that deliver outperformance at different times from one another. This approach strives to minimize overall portfolio volatility while maintaining desirable return characteristics. Once an investment option is part of the Principal LifeTime portfolios, it is subject to rigorous ongoing quantitative and qualitative monitoring, as well as to all other requirements of the due diligence process of Principal Life Insurance Company, including quarterly scoring, in-depth analysis and annual face-to-face meetings. The Principal LifeTime portfolios are invested in underlying investment options having a combination of different investment advisors. As a result, they are classified within the industry as multiple manager target date investment options. The majority of the underlying investment options used within the Principal LifeTime portfolios are actively managed. We believe that market efficiency varies across markets and market segments. As a result, we believe the payoffs to active management vary across different asset classes and investment styles. Our investment strategy is to use actively managed investment options most aggressively in less efficient market segments such as small-cap equities, global emerging markets, real estate and high yield bonds and investment options with lower levels of active risk in the more efficient asset classes and investment styles (e.g., large-cap U.S. and non-u.s. equities and core fixed income).
Step 4: Disciplined Rebalancing The final step in the investment process is rebalancing. The portfolio management team views rebalancing as a risk management service; thus, our primary focus is on controlling and managing systematic risks, not forecasting short-term market trends. Nevertheless, the team believes that market disequilibriums do occur and can be exploited using a process we refer to as disciplined rebalancing. The systematic (or rules-based) rebalancing process is characterized as strategic because it utilizes target ranges for each asset class and investment manager. However, the disciplined rebalancing strategy also offers a modest opportunity to add excess return within the Principal LifeTime portfolios by actively managing the pace of rebalancings. The disciplined rebalancing strategy combines quantitative modeling with qualitative inputs to help optimize portfolio exposure (style orientation and market capitalization distribution) and assess the timeliness of rebalancing strategies. All marginal shifts in the asset allocation mix are based on a consistent three-dimensional analytical framework. Our primary focus is on controlling and managing systematic risks, not forecasting short-term market trends. Principal LifeTime Portfolios April 2016 9 Principal Global Investors evaluates valuation dynamics using factors such as price multiples, earnings, and yield measure relative to longterm historical norms. In addition, fundamental economic and market conditions are analyzed to identify potential dislocations and event opportunities. The third dimension focuses on the early identification of changes in investor expectations (relative price strength and investor sentiment). These complementary inputs provide vital insights as to when and how much an asset class exposure should be rebalanced back to the target weight.
Principal LifeTime Portfolios April 2016 10 The goal of the four-step investment process is a well-diversified, institutional-quality target date portfolio designed to help investors over their entire lives. The minimum and maximum ranges for total equity and fixed income are static limits, and rarely will the equity exposure extend beyond these limits. Should any asset class or underlying asset exceed its minimum/maximum limits, the allocation will be rebalanced back to its target. The Principal LifeTime portfolios relative positions and risk exposures are continuously monitored by the investment teams at Principal Management Corporation and Principal Global Investors. The Principal LifeTime portfolios maintain strict target weights for each major asset class and manager, and portfolio allocations are maintained using narrow, pre-defined bands around these targets. Summary The goal of the four-step investment process used to construct each Principal LifeTime portfolio is a well-diversified, institutional-quality target date portfolio designed to help investors over their entire lives. The combined experience and complementary skills of Principal Management Corporation and Principal Global Investors investment teams provide the Principal LifeTime portfolios with a competitive edge in terms of strategic asset allocation, investment manager selection and monitoring and systematic rebalancing.
Important Information Before directing retirement funds to a separate account, investors should carefully consider the investment objectives, risks, charges and expenses of the separate account as well as their individual risk tolerance, time horizon and goals. For additional information contact us at 1-800-547-7754 or by visiting principal.com. Carefully consider the Fund s objectives, risks, charges, and expenses. Contact your financial professional or visit principal.com for a prospectus, or summary prospectus if available, containing this and other information. Please read it carefully before investing. Investing involves risk, including possible loss of principal. Fixed-income and asset allocation investment options that invest in mortgage securities are subject to increased risk due to real estate exposure. Principal LifeTime Portfolios April 2016 11 Equity investment options involve greater risk, including heightened volatility, than fixed-income investment options. Fixed-income investment options are subject to interest rate risk; as interest rates rise their value will decline. International and global investment options are subject to additional risk due to fluctuating exchange rates, foreign accounting and financial policies, and other economic and political environments. Asset allocation and diversification do not ensure a profit or protect against a loss. Additionally there is no guarantee this investment option will provide adequate income at or through retirement. Real Estate investment options are subject to investment and liquidity risk and other risks inherent in real estate such as those associated with general and local economic conditions. Property values can decline due to environmental and other reasons. In addition, fluctuation in interest rates can negatively impact the performance of real estate investment options. Lower-rated securities are subject to additional credit and default risks. The risks associated with derivative investments include that the underlying security, interest rate, market index, or other financial asset will not move in the direction the Investment Adviser and/or Sub-Advisor anticipated, the possibility that there may be no liquid secondary market, the risk that adverse price movements in an instrument can result in a loss substantially greater than a fund s initial investment, the possibility that the counterparty may fail to perform its obligations, and the inability to close out certain hedged positions to avoid adverse tax consequences.
WE LL GIVE YOU AN EDGE Principal Financial Group, Des Moines, Iowa 50392-0001, principal.com Insurance products and plan administrative services provided through Principal Life Insurance Co. Principal Funds, Inc. is distributed by Principal Funds Distributor, Inc. Securities offered through Principal Securities, Inc., 800-547-7754, Member SIPC and/or independent broker/dealers. Principal Life, Principal Funds Distributor, Inc. and Principal Securities are members of the Principal Financial Group, Des Moines, IA 50392. Certain investment options may not be available in all states or U.S. commonwealths. Separate Accounts are available through a group annuity contract with Principal Life Insurance Company. See the group annuity contract for the full name of the Separate Account. Principal Life Insurance Company reserves the right to defer payments or transfers from Principal Life Separate Accounts as permitted by the group annuity contracts providing access to the Separate Accounts or as required by applicable law. Such deferment will be based on factors that may include situations such as: unstable or disorderly financial markets; investment conditions which do not allow for orderly investment transactions; or investment, liquidity and other risks inherent in real estate (such as those associated with general and local economic conditions). If you elect to allocate funds to a Separate Account, you may not be able to immediately withdraw them. PQ8510-10 2016 Principal Financial Services, Inc. t16041904dx 4/2016