Lifecycle funds have become hugely popular with investors due to their simplicity but as more funds are launched, picking the right one is increasingly becoming a complex task for retirement plans.
These funds, which generally allocate their assets to a mix of underlying funds based on some parameters like the age or risk tolerance of an investor, are so diverse that comparing them is difficult. And unlike single mutual funds, there aren't many well developed benchmark indices to compare them against.
There are a lot more moving parts in a lifecycle fund than in a typical fund on a 401(k) plan menu. That makes it more difficult for sponsors and consultants, said Patrick Cunningham, managing director at Manning & Napier Advisors, which has $2 billion in 401(k) lifecycle funds.
Lifecycle and lifestyle fund assets have grown four-fold from 2002 to $300 billion at the end of 2006 and are expected to cross $1 trillion by 2010, according to Ibbotson Associates, an asset allocation firm of Morningstar Inc.There were 118 funds at the end of May against six in January 2006, according to Lipper.
Lifecycle funds, or target date funds, are widely regarded as the future of retirement savings as organizations encourage savers to take responsibility for their retirement. In the past week, money manager BlackRock Inc. launched nine such funds in the U.S. and BMO Investments launched four in Canada.
Investors pick a fund with the target date closest to their likely retirement and the fund's asset allocation becomes progressively more conservative as that year approaches. These funds are also increasingly being made the default option in retirement plans.
But, according to Morningstar data, funds with a target date of 2030 had equity allocations as varied as 95 percent to 60 percent. And funds differed in their international equity exposure from as much as 33 percent to as little as 1 percent.
A lot of them (plan sponsors) really aren't aware of the big variance in the different products, said Scott Wentsel, vice president at Ibbotson Associates.
Most people initially think they are all the same, but when you dig a little deeper they are very different. So there's a fair amount of due diligence that needs to be done, said Wentsel.
To overcome the tricky selection issue, many retirement plan sponsors, especially if they are not advised by investment consultants, tend to pick the lifecycle funds offered by the plan's record-keepers, which may not be the best solution, said Benjamin Poor, an analyst at research firm Cerulli Associates.
It's a problem and it might be an issue that sort of plays out over time, Poor added.
Index providers are also moving cautiously in developing benchmarks for lifecycle funds.
There is no universally accepted mathematical model for establishing the universe for a certain target date or target maturity, said Srikant Dash, an index strategist at Standard & Poor's, which doesn't have indexes for lifecycle funds yet.
Fiduciaries and investors should look through to the individual funds comprising a lifecycle product, rather than looking at the lifecycle product itself, Dash added.