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Wringing out the fat

Target-date fee declines expected to continue

The average expense for target-date fund families dropped to 99 basis points in 2011 from 102 basis points a year earlier, according to new research by Morningstar Inc., Chicago.

Overall target-date fees could decline for a few more years at a modest pace, said Laura Lutton, editorial director for mutual fund research at Morningstar, in an interview.

“At some point, a lot of the fat will be wrung out, but we still expect some future fee cuts,” Ms. Lutton said. “As smaller target-date funds get bigger, economies of scale could drive down fees.”

The biggest impediment to industrywide fee cuts, she added, would be if there's a significant growth in target-date funds that incorporate alternative investments in their lineups to improve asset-allocation diversity. Because alternative investments tend to be more expensive, “that struggle will continue for the industry,” Ms. Lutton said.

The average asset-weighted expense ratio for 40 target-date fund families declined thanks to providers taking advantage of greater bargaining power as fund assets grow and providers responding to competition, the Chicago-based research firm said in a recent report.

Morningstar analyzes expenses from open-end mutual fund target-date series; it doesn't look at collective trusts, separate accounts or custom target-date portfolios.

“Cost pressures have increased not only due to competition among open-end mutual fund series, but some series have said they're losing market share to separate-account and collective-investment-trust options (which) tend to have much lower expenses,” said a Morningstar report, issued in May, that outlines its target-date fee research.

The creation of lower-cost share classes for target-date funds and the “greater emphasis on lower-cost index options” also have helped knock down average expenses of target-date series, the report said.

Among the fund families with a track record of at least three years, the Vanguard Target Retirement Series maintained a wide lead over the rest of the pack with an asset-weighted average expense ratio of 18 basis points last year. The TIAA-CREF Lifecycle Series placed second with 60 basis points and the Wells Fargo Advantage Dow Jones Target Series was third with 62 basis points.

Target-date fund families with the highest expense ratios were Oppenheimer LifeCycle Series, 155 basis points; Legg Mason (LM) Target Retirement Series, 153 basis points; and Franklin Templeton (BEN) Retirement Series, 144 basis points.