Target-date funds have been blossoming as a one-stop shopping investment vehicle to save for retirement or a child's education.
While their assets have hit $4-billion in Canada as investors gravitate to them because of their low-maintenance appeal or offer of a guaranteed amount at maturity, the funds have also run into growing pains.
Two fund families have capped investments after being forced to shift into bonds after last year's market collapse, while others are getting out of the niche. At least one fund is giving investors their money back well ahead of schedule.
Many of the funds that have run into headwinds are so-called guaranteed funds.
Products like Bank of Montreal's BMO LifeStage Plus, Mackenzie Financial Corp.'s Destination + and IA Clarington Inc.'s Target Click portfolios have been driving the growth in the sector by promising investors "downside risk protection but also potential for upside," said Investor Economics' Iassen Tonkovski.
If investors hold their funds to their maturity date, they will be guaranteed either the highest monthly or daily net asset value. This is done by investing in strip bonds early or late in their lifespan.
Last fall's market crash, however, forced all of Mackenzie's four Destination + funds, which were launched in January, 2008, to shift into strip bonds to be able to make good on their high-water mark.
Investors who were fully invested in equities with such target dates as 2020 and 2025 found themselves in all bonds, and would have to stick with this investment to get their fund's best return last year.
"We didn't expect the catastrophic meltdown," said Jim Fraser, senior vice-president of marketing at Mackenzie. "It doesn't make sense to market those funds now to new investors because all they would be buying is zero-coupon bonds."
Similarly, the BMO LifeStage Plus 2015 and 2020 portfolio shifted into all bonds last fall, and have also closed. Both Mackenzie and Bank of Montreal acknowledged that some investors in the capped funds have forsaken the guarantees and redeemed at a loss to invest elsewhere.
"We had the perfect storm of significant market volatility and much lower interest rates," said Mark Stewart, a BMO Mutual Funds executive. "But we still believe in the product."
Some BMO clients who redeemed at a loss have reinvested their remaining money into BMO's newly launched LifeStage Plus funds, with such maturity dates as 2017, 2022 and 2026, and it's because they still like the guaranteed-return feature, he said.
With some funds missing their mark, analysts question whether these investments - which automatically become more conservative as the target date nears - are the best savings strategy.
With their higher fees, they argue that investors can do a better job building their own portfolio with an adviser or by themselves through exchange-traded funds (ETFs).
"I am not a fan of these at all," says Dave Paterson, an independent fund analyst.
With the guarantee features and the wide range of asset mixes in the different funds with similar target dates, it "really reiterates the fact that, even though they are a 'simple investment,' they are still fairly complicated," he said.
Investors give up a lot of control with these funds, Mr. Paterson added. "The problem with any out-of-the box solution is that they are not overly flexible. It assumes everyone with the same target date is going to want the same asset mix or asset allocation."
Fund analyst Peter Loach said target-date funds, which invest in other funds and/or offer guaranteed returns, are "loaded with fees" that can be a drag on returns. "You have to understand what you are buying," he warned.
While these funds have their skeptics, Toronto-based Investor Economics estimates they should hit $20-billion over the next decade after growing nearly threefold from $1.4-billion at the end of 2006.
Despite the size of the market, such firms as Russell Investments Canada Ltd. are actually withdrawing from the niche. It is winding up its LifePoints funds in November because it has been unable to attract sufficient assets.
CIBC Asset Management Inc. also shut down its Sequence portfolios last year.
And IA Clarington's Target Click 2010 Fund will mature on Sept. 18 - nine months ahead of its original target - to be able to guarantee the highest month-end return.
This fund, which is structured differently from the Destination + and BMO LifeStage Plus offerings and invests in strip bonds, cash and equities at the start, moved into bonds from a natural progression into conservative investments, said Eric Frape, IA Clarington's senior vice-president of product and business development.
But the firm accelerated the maturity from the target at June 30, 2010, to keep management fees from eating away at the puny bond returns in a low-rate environment, he said. "There is not a lot of potential upside in the portfolio, so we think it is in the best interest of investors to bring the maturity date forward."
A big problem with target-date funds in general is that they can have the same end date, but vastly different asset mixes, Mr. Paterson said. "If you haven't done your homework, you may actually end up having more market exposure than you actually think."
In the United States, target-date funds - which are used as a default for many 401-K retirement plans - have come under the scrutiny of regulators after some investors nearing retirement lost a lot of money in last year's market collapse because their funds had too much in equities.
In Canada, the difference in asset mix is evident in several 2010 funds. The RBC 2010 Education Fund now owns a money market and bond fund, while IA Clarington's Target Click 2010 is in Treasury bills after being in strip bonds. But Fidelity ClearPath 2010 Portfolio is 40 per cent in equities.
Peter Chiappinelli, who is on the team overseeing target-date portfolios at Fidelity Investments Canada, defends the higher equity weighting.
"There is no concept of maturity" because investors can stay in them beyond the target date, said Mr. Chiappinelli, noting that investors will need more growth in their portfolios to hedge against inflation.
Still, Mr. Paterson suggested that investors are better off building a custom portfolio by working with an adviser or doing it themselves because they can often gain access to better-performing funds. "Fidelity has a good lineup of funds, but they don't have the best fund in every category."
Peter Benedek, a financial services consultant who runs the website retirementaction.com, said investors also forget that a packaged portfolio of funds can prohibit them from taking advantage of favourable tax treatment for different securities.
Mr. Benedek said that in order to cut down on costs and take advantage of additional tax benefits, investors can build their own portfolio with low-fee ETFs, and rebalance yearly.
A portfolio might include ETFs like iShares CDN S&P/TSX 60; iShares CDN Dex Universe Bond; and/or iShares CDN DEX Short-Term Bond; Vanguard Total Stock Market; and iShares MSCI EAFE, he said.
HOW TARGET-DATE FUNDS WORK
A target-date fund aims to generate returns for a goal such as retirement or a child's education. Also known as a life-cycle fund, it is typically a portfolio of mutual funds invested in stocks, bonds and cash equivalents. It is also sold with a target date, such as 2010 or 2015, when an investor might want to start drawing on the cash.
With these funds, it is the manager who adjusts the asset mix over time from equities to more bonds and cash equivalents. Fees usually decline as the fund becomes more conservative.
Some target-date funds are run like regular mutual funds. Others guarantee the highest daily or monthly net asset value if held to maturity, but generally charge a higher fee for this protection feature.
These funds have become very popular in the United States, where the idea was pioneered by Boston-based Fidelity Investments in the 1990s. The RBC Target Education Series was the first launched in Canada in 2004.
How target-date funds are faring
|(As of July 31)||Latest||% return (as of July 31)|
|Fidelity ClearPath 2010 Portfolio-A||87.0||2.12||8.2||-4.3||1.3|
|Scotia Vision Aggressive 2010 Port||5.7||1.99||6.6||-6.9||-1.2|
|Ethical Advantage 2010||11.1||2.15||6.5||-3.3||0.7|
|Russell LifePoints 2010 B||5.8||-3.6||0.2|
|Scotia Vision Conservative 2010 Prt||42.2||1.82||6.0||-5.3||-0.4|
|London Life 2010 Profile||14.2||2.77||4.5||-1.7|
|RBC Target 2010 Education Fund||87.6||1.00||1.2||1.4||3.2|
|IA Clarington Target Click 2010||40.5||1.89||1.0||2.6||3.1|
|Fidelity ClearPath 2020 Portfolio-A||137.9||2.29||11.3||-8.5||0.4|
|Scotia Vision Aggressive 2020 Port||31.2||2.14||8.9||-10.5||-3.1|
|Scotia Vision Conservative 2020 Prt||74.0||2.00||8.1||-7.7||-1.6|
|Ethical Advantage 2020||34.1||2.34||7.8||-10.2||-2.8|
|Russell LifePoints 2020 B||6.3||-7.0||-1.6|
|RBC Target 2020 Education Fund||182.7||1.85||6.9||-9.6||-1.7|
|London Life 2020 Profile||30.2||2.93||5.1||-6.9|
|BMO LifeStage Plus 2020||152.1||2.66||1.9||-15.3|
|IA Clarington Target Click 2020||153.3||2.59||1.9||-2.2||-0.6|
|Mackenzie Destination+ 2020-A||49.6||1.87||0.9||-12.5|
|McLean Budden LifePlan TM 2020 AA *||9.0|
|DEX Universe Bond Total Return Index||3.5||6.8||5.7|
|MSCI World ($ Cdn)||2.1||-17.0||-6.6|
|S&P/TSX Total Return||22.5||-17.7||-0.2|
|*Since Inception 3/31/2009 Return|
|Source: Globe Investor|
© 2007 The Globe and Mail. All rights reserved.
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