Friday, April 06, 2012

SEC Reopens Comment Period on Target Date Fund Proposal

The Commission has reopened the comment period on proposed disclosure requirements for target date retirement funds. The reopening release has a companion survey. Target date funds became popular with investors in the last decade and often are the default choice in employers’ 401(k) plans. Target date funds seek to invest fund assets in progressively less risky allocations over many years, achieving the most conservative allocation on or about a specified retirement date. In theory, this makes fund selection easier for investors because they can simply choose a fund based on their expected retirement date.

As the proposing release observed, however, the target retirement date stated in a fund prospectus can be misleading. Specifically, the so-called “glide path” by which a fund reduces risk over many years can reach a static “landing point” near the target date, or many years later. Thus, investors seeking a conservative allocation on their retirement date may or may not achieve this goal on the date specified in a fund’s name or prospectus. The proposal noted that some funds reach their most conservative allocation as many as 30 years after the target date.

The proposal would amend the Securities Act and Investment Company Act to require: (1) disclosure of a fund’s asset allocation at the target date immediately adjacent to the first use of the fund’s name, if the target date is part of the fund’s name, (2) inclusion of tabular or other graphical disclosure showing asset allocation over time plus a statement of the fund’s final asset allocation, and (3) a statement in marketing materials that the fund should not be chosen solely by age or retirement date, that target date fund investments are not guaranteed, and that asset allocations can change. The proposal also would provide guidance regarding statements in target date fund sales literature that can be misleading.

The reopening release is accompanied by a SEC-sponsored survey conducted by a consultant. The report surveyed 1,000 investors with diverse backgrounds. Participants were given one or more documents describing target date funds and then asked questions about their knowledge of these funds. The survey found that while responses varied, many participants had misconceptions about target date funds. Overall, participants who viewed the document containing glide path disclosure showing scheduled changes in asset allocation tended to answer more questions correctly.

The study noted that 96 percent of those surveyed owned target date funds through an employer sponsored plan (75%) or IRA. Many respondents incorrectly thought a fund’s most conservative allocation would be reached on the target date. Thirty-six percent of respondents understood that target date funds do not offer guaranteed retirement income. Knowledge of target date funds was greatest for older respondents, for those who own target date funds, and for those who own target date funds in an employer-sponsored plan by choice rather than by default. The survey often noted that respondents scoring highest for knowledge of target date funds did so nominally or that little variation existed between them and others scoring lower.

Prior to the 2010 proposal, SEC staff had queried fund companies about target date funds through disclosure review comment letters. The SEC staff, for example, asked Frank Russell Investment Co. to clarify why funds continue to change their allocations after the target retirement date. Frank Russell replied that it believed that most investors should reach the most conservative allocation of 80% fixed income assets and 20% equity assets 20 years after the target retirement date. As a result, the fund’s asset allocation is riskier on the target retirement date than it is 20 years later when the fund reaches its most conservative allocation.

However, Frank Russell Investment Co. said that it would include additional language in its prospectus stating that a more conservative investor who needs more income earlier should select a fund with a target retirement date earlier than the date closest to the investor's intended retirement year. The fund also agreed to include language stating that the funds will be fixed at 80% at the actual year they are fixed at 80% instead of stating the funds will be fixed at 80% 20 years after the target date (Frank Russell Investment Co. (May 16, 2005)).

Following publication of the proposing release in 2010, the SEC staff asked Fidelity Aberdeen Street Trust to include in the “Principal Investment Strategies” section of its “Fund Summary” a glide path for all funds that had not yet reached their target date. The company acknowledged that it was aware of the proposal, but said it could not include the requested glide path because the “Principal Investment Strategies” section currently is limited to disclosure of the principal strategies for one fund at a time. The company observed, however, that disclosure tracking the staff’s request had been presented in the “Investment Details” section of the prospectus (Fidelity Aberdeen Street Trust (September 1, 2011)).

The comment period for Release No. 33-9126 (June 16, 2010) closed on August 23, 2010. Under the reopening release, comments are due May 21, 2012.