'The issue today is whether that target date fund the plan sponsor selected 10 years ago is still the right choice for them,' notes VP at NFP Canada
When target date funds (TDFs) first arrived on the Canadian market several years ago, they were embraced as a solution to a persistent problem - how to offer meaningful investment options to defined contribution (DC) plan members.
Now, Fergus Meldrum thinks it’s time for plan sponsors to take a hard look at whether those TDFs are still fit for purpose. While the basic appeal remains, Meldrum believes much has shifted in how they're designed and managed.
After all, the structure of Canadian TDFs has evolved considerably. Meldrum explained early versions were heavily weighted toward Canadian equities, but that’s no longer the case.
“What we've seen over the last few years is a lot of fund managers kind of paring down what they have in Canada and looking for more of an international and US approach. When I'm in front of a US committee presenting with respect to how the Canadian program has done, they're looking at their target date funds in the US, and they're comparing them to the Canadian target date funds, and the returns have been quite different,” explained Meldrum, vice president of business development and investment strategies at NFP Canada.
“In the US, it's almost all US equity within the target date funds, and that's really served plan members in the US. In Canada, it's been a little bit more of a slower transition.”
Beyond equity allocation, Meldrum highlights the growing inclusion of alternative investments and a more sophisticated fixed income strategy inTDFs. As plan members approach retirement, the fixed income component becomes more prominent, and managers are now broadening beyond traditional bond offerings to pursue higher returns.
“That’s important because as employees get closer to retirement, that fixed income portfolio becomes a larger component within the target date fund. So, moving away from the “vanilla type” bond offerings to numerous different types of vehicles on that front can generate better returns,” Meldrum said.
But perhaps the most consequential evolution, he adds, has occurred in the glide paths themselves, the strategies that gradually reduce risk as the investor ages.
In recent years, some managers have opted for more aggressive glide paths to stay competitive with leading US managers like Fidelity and BlackRock.
He describes the glide path as the engine that drives how TDFs adjust over time—shifting from growth-focused to more conservative investments as members approach retirement. As retirement nears, those allocations begin to shift toward fixed income and lower-risk assets, gradually de-risking the portfolio. The pace and strategy behind this transition varies between fund providers.
“The glide path is the secret sauce for target date fund managers,” he said. “That’s really where they do all their research.”
He doesn’t shy away from admitting that these changes can come with increased risk as he notes that today, “it's probably worse for everybody,” pointing to market volatility and tech-sector exposure.
And while TDFs have evolved into a stronger and more sophisticated product, their evolution has brought responsibility for plan sponsors to reassess their original selections.
“I think the issue today is whether that target date fund the plan sponsor selected 10 years ago is still the right choice for them,” he said. “Target date funds have really changed the game from a default investment perspective. Now employees can invest in something based on them figuring out when they want to retire.”
He sees the 2024 updates to the CAP Guidelines as a timely opportunity for sponsors to revisit their default investment choices, particularly since many of those choices were once ultra-conservative options like money market funds or GICs, which left plan members vulnerable to inflation. TDFs, by contrast, offer a dynamic, diversified portfolio that adjusts as members age.
“If you’ve got a very rich program where the assets are sticky and the average account balance is a lot greater, then you don't need to be as aggressive from a glide path perspective,” he said.
Still, Meldrum is clear-eyed about the shortcomings as he’s skeptical of the “set it and forget it” mindset, both for members and sponsors. He cautions against blanket assumptions about suitability and emphasizes the need for plan members to engage more actively with their investment choices, especially if life circumstances change.
“Employees should still monitor their own situation. If there's an expert they can speak with, they should do that and make sure their situation aligns with the target date they’re in,” he noted.
However, Meldrum is quick to emphasize that TDFs and DC plans are “almost like a perfect marriage. It really does fill that gap from an investment selection perspective. A lot of employees obviously aren't experts when it comes to investing.”
While there’s no revolutionary new alternative to TDFs, he points to the growing emphasis on the advice model as a natural next step. He asserts that plan sponsors have shied away from offering advice to their plan members.
“If there’s someone there that can support them and help manage their situation through some of those challenges, it puts the member in a better place in the end. There’s been a lot of change,” he said. “There’s a wonderful opportunity, if you work with the right consultant, to better align your corporate goals with the program that you offer.”
