The Securities and Exchange Commission encouraged target-date fund managers to review their practices, policies and procedures as it noted some TDFs had "incomplete and potentially misleading disclosures."
The SEC's Office of Compliance Inspections and Examinations issued a risk alert Thursday highlighting problems in the current TDF landscape, like improper asset allocations. In its review, the OCIE found several TDFs that had marketing materials with asset allocation disclosures that differed from the TDFs' prospectus disclosures, according to the alert.
The OCIE staff also noted potential conflicts of interest in TDFs, such as when TDF portfolios use proprietary funds as underlying investments. Research from Mercer found that in the second quarter of 2019, 93.3% of TDF assets were invested in closed architecture solutions, which it defines as a TDF series that does not invest in any underlying funds managed by a third-party investment manager.
"OCIE encourages funds to review their practices, policies, and procedures in these areas and to consider improvements in funds' compliance programs, as may be appropriate," the alert said.
In 2013, the Department of Labor put out a series of tips for ERISA plan fiduciaries. One tip was to inquire about whether a custom or nonproprietary TDF would be a better fit for their plans.
"Nonproprietary TDFs could also offer advantages by including component funds that are managed by fund managers other than the TDF provider itself, thus diversifying participants' exposure to one investment provider," the Labor Department advised. "There are some costs and administrative tasks involved in creating a custom or nonproprietary TDF, and they may not be right for every plan, but you should ask your investment provider whether it offers them."
In drawing its conclusions, OCIE staff examined more than 30 TDFs, including both "to" and "through" funds. A fund that is managed "to" its target date tends to be more conservative by reducing the fund's equity exposure over time to its most conservative asset allocation at the target date, the alert noted. In contrast, a fund that is managed "through" its target date will typically reach its most conservative asset allocation years later.
The staff found that most TDFs "appeared to be in general compliance" with existing regulation, the alert said.
Assets in target-date strategies totaled more than a $1.7 trillion at the end of 2018, according to research from Morningstar.