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Stable value and target-date funds

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The stable value industry has seen its share of challenges in the past decade, from the market crisis of 2008-09 to the drafting and passage of the Dodd-Frank Act in 2010 and the ensuing scrutiny of stable value contracts and whether they should be classified as “swaps.” As that turmoil fades into the rearview, we’re now seeing a period of relative calm and consistency. It’s a prime time to step back, assess the landscape and focus on proactive growth along with meeting new challenges on the horizon.

One such challenge—as well as a significant growth opportunity—is the rising popularity of target-date funds in defined contribution plans, particularly as qualified default investment alternatives (QDIAs). As of year-end 2014, target-date funds were the top QDIA choice for 74.6% of plans, according to Callan Investments Institute’s “2015 Defined Contribution Trends” survey. The ubiquity of target-date funds represents a gauntlet thrown to the stable value industry. How do we ensure that we are part of the target-date fund equation?

We start by looking at custom target-date funds. Off-the-shelf target-date fund providers typically invest only in mutual funds, leaving stable value out of the mix. Conversely, stable value can be a core component of custom TDFs, which are built from plan sponsors’ own core investment options. As an industry, we must work closely with plan sponsors and advisors to ensure that stable value funds are part of the discussion when custom target-date funds are being constructed. This is increasingly important because the percentage of plans using custom target-date funds continues to grow, nearly doubling from 2013 to 2014 (from 11.5% to 22.3%).1

While target-date funds are valued for their ease of use, diversification, and professional management, stable value delivers complementary benefits like stability of returns and principal and interest guarantees. The importance of these benefits cannot be overstated in times of market turmoil. For example, during the 2008 credit crisis, one popular target-date fund with a target date of 2010 posted a loss in excess of 40 percent,2 while over a similar time period stable value products averaged a 4.17% rate of return.3

With its built-in downside protection, allocating stable value into a target-date fund can supply an opportunity for the fund to take on a bit more risk, pushing the overall risk/return frontier out a little farther. Including a stable value component in target-date funds can potentially make a positive contribution to performance and to the Sharpe ratio of the fund.

Target-date funds should not be the only focus for stable value managers and providers, however. Plan sponsors may not be aware that there are in-plan asset allocation programs and tools, many of which can be used as QDIAs, which provide a prime vehicle for stable value funds, with no doubling up on fees. Asset allocation tools and programs function similarly to target-date funds, in that they slot participants into investment paths based on estimated age at retirement; however, they also consider other factors such as investor risk profiles. In these programs, stable value can function as a conservative anchor, providing attractive, risk-adjusted returns as part of an overall asset allocation strategy. It’s yet another avenue for opening a discussion around stable value funds and their role in helping people meet their financial needs and goals.

We can’t afford to be left out of the target-date conversation. We must be proactive in finding ways for stable value to be part of the target-date fund solution. We must also seize the opportunities that already exist with in-plan asset allocation products and look at the different ways stable value can be included to the benefit of the industry, plan sponsors and advisors, and participants.

 


1 Callan Investments Institute, 2015 Defined Contribution Trends Survey.
2 ”Target Date Research Paper, 2013 Survey,” Morningstar Fund Research.
3 Stable Value Investment Association, 14th Annual Stable Value Investment & Policy Survey,  years 2008 and 2009, SVIA’s 2010 Spring Forum.

 


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About the Author

John Barrasso, Managing Director, Head of Stable Value Distribution & August A. Urgola, Vice President, Institutional Solutions

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