Grading Target Date Funds from a Fiduciary Perspective

I’m tired of seeing high risk get good grades.

Target date funds (TDFs) are the biggest deal in 401(k) land so there is great demand for a scoring system. Morningstar has become the recognized TDF rating authority, but much of their rating is based on investment performance. Not surprisingly, funds with high U.S. equity allocations receive high marks because U.S. stocks and real estate have skyrocketed in the past 5 years, leaving other asset classes in the dust, as shown in the following graph. But winning the performance horserace over this time period is more of a warning than it is a triumph. U.S. equities are risky, and someday U.S. equity markets will correct.

TDF Morningstar


My hope is that a better rating system would actually be used to vet TDFs. With more than 60% of this $trillion industry entrusted to the Big 3 bundled service providers, there appears to be very little due diligence. There are funds with a better Fiduciary Score than the Big 3.

Fiduciary Considerations

The fiduciary duty of care mandates protection of the vulnerable from foreseeable harm. It’s like our obligation to protect our children – it’s a moral imperative as well as a legal responsibility. At the same time, fiduciaries strive to earn reasonable returns on assets in TDFs. So how is a fiduciary supposed to reconcile these conflicting mandates?  There are only 3 characteristics that matter, as shown in the following graph.


A Fiduciary Score

I created a score that uses these three fiduciary considerations. Contact me for the details. The contrasts of my Fiduciary Score results to Morningstar Ratings are revealing, as shown in the following 2 graphs.

TDF Prudence or Performance


Fiduciaries now have a choice between TDF rating systems that are quite different. You can choose between Prudence and Performance. The cost of Prudence in rising markets is sacrificed Performance, but this sacrifice pays off in declining markets and can easily compensate for sacrifices.

I hope you find my Fiduciary Scores helpful. I also hope that plan fiduciaries will vet their TDF selection. The fact that more than 60% of TDF assets are with the big 3 bundled service providers suggests that fiduciaries are not considering alternative TDFs.

To learn more about Ron Surz, visit Target Date Solutions.

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