With the recent introduction by T. Rowe Price of their “personalized” target date series, joining American Funds and Pimco, it’s worth reflecting on the evolution of TDFs from their humble begins created by Donald Luskin and Larry Tint at Wells Fargo Investment Advisors in the 1990s which was bought by Barclays and subsequently Blackrock.
Not only do TDFs exemplify the evolution of the DC industry and could be the vehicle for dramatically improved outcomes, they also provide valuable lessons that could lead to 401(k) 3.0 with the auto plan as 401(k) 2.0.
The spectacular rise of TDFs, estimated to be $3.5 trillion in 2023 by Morningstar with 38% of 401(k) assets according to EBRI garnering 68% of new contributions, did not begin until the 2006 Pension Protection which provided safe harbor for the use of auto features with the TDF as the default.
The lesson here is that products do not move markets – they are just tools waiting to be used. Without agents like auto features, TDFs would be just another investment choice even though they make so much sense for investors unable or unwilling to create and manage their portfolios.
With TDFs’ growing usage and the increased adoption of auto-enrollment and escalation required for new plans in 2025 and by many state mandates with insiders predicting SECURE 3.0 may require it for all plans, TDFs could be the vehicle for adoption of retirement income as people get closer to retirement. They may also bring alternatives like private equity to the masses just as mutual funds democratized investing in public companies.
Having a top TDF is one of three attributes for DCIOs to be successful along with indexing and a major record keeper. TDFs also enable record keepers that do not have a strong asset management complex to co-create TDFs embedding, for example, proprietary investments like stable value. One major TDF provider may be staying in the record-keeping business even though they do not have scale because they are concerned about outflows if they sell.
Lessons learned? While the tools are important and logic indicates what people should do, it takes a nudge like auto-enrollment to understand human behavior to make a dramatic impact. TDFs are a tool, and BeFi is the agent or actor.
In his recently published book, NEXUS: A Brief History of Information Networks from the Stone Age to AI, Yuval Harari describes why AI has will dramatically impact our lives because it is an agent, not a tool, and can act on its own, which is both exciting and scary. Data and information are tools as are the many wellness apps, just like TDFs. But ignited by AI, data can not only cause people to take action, it can act on its own leaving them the ability to opt out which we know they rarely do.
So while I could drone on about the evolution of TDFs and the many different flavors like “to versus through”, hybrid funds, multi-manager, and CITs adding more fodder for the 401(k) echo chamber, it might be better to step back and understand the existential lessons learned about why TDFs have gained popularity so quickly and why they are so important for the future.
The next questions the DC and even wealth industries need to ask are:
- How do we engage participants?
- How can we unleash the power of data + behavior?
- How can we provide advice at scale to the masses?
While the convergence of wealth, retirement and benefits at work is a hot topic and will be a major discussion point at Wealth@Work and the RPA Aggregator Roundtable this week in San Antonio, most are still struggling to effectively answer these questions.
Whoever can do so will experience even greater rewards than the top TDF providers and will dominate the consolidating DC industry, leaving laggards on the outside looking in.
