Ibbotson Q4 2014 Target-Date Report

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Ibbotson Target-Date Report

©2015 Ibbotson Associates, Inc. All rights reserved. Ibbotson Associates, Inc. is a registered investment advisor and wholly owned subsidiary of Morningstar, Inc. The Ibbotson name and logo are either trademarks or service marks of Ibbotson Associates, Inc. The information contained in this document is for informational purposes only and is the proprietary material of Ibbotson Associates. Reproduction, transcription, or other use, by any means, in whole or in part, without the prior written consent of Ibbotson, is prohibited. Opinions expressed are as of the current date; such opinions are subject to change without notice. Ibbotson Associates, Inc. shall not be responsible for any trading decisions, damages, or other losses resulting from, or related to, the information, data, analyses or opinions or their use.

Fourth Quarter 2014

Ibbotson Target-Date Report 4Q 2014

U.S. stocks enjoyed a strong fourth quarter in 2014. The S&P 500 Index rose nearly 5% in the quarter and 13.7% for 2014, while small-cap stocks, as represented by the Russell 2000 Index, gained nearly 10% in the quarter and 4.9% for the year. The economic outlook did not improve in most countries outside the U.S., with the MSCI EAFE Index losing 3.6% in the fourth quarter and 4.9% for the full year. Many investors expected bond yields to rise in 2014, as the 10-year Treasury yield started the year at a low 3% and the Federal Reserve's bond-buying program was winding down. Those forecasts proved off target as weak global growth, low inflation, and loose global monetary conditions combined to push rates down. The Barclays U.S. Aggregate Bond Index ended 2014 with a 6.0% gain, and the 10-year Treasury yield finished at 2.17%. As target-date funds contain a mix of both stocks and bonds, performance of target-date funds was affected by the performance of both. Highlights from this quarter’s report include:

• After posting negative returns in the third quarter, target-date fund performance was positive in the fourth quarter with the average fund gaining 1.7%. Diversification dragged on performance, as large-cap stocks outperformed most equity asset classes and core bonds outperformed most bond asset classes. For the year, target-date funds posted a gain of more than 5%.

• Individual asset class performance was mixed during both the fourth quarter and last 12 months. Diversification into non-U.S. equities hurt the performance of target-date funds over both periods as non-U.S. equities turned in negative returns over both of these periods. Alternatives provided mixed contributions, as commodities wrapped up a tough year with its worst quarter of 2014 while REITs turned in a stellar quarter and even better year in 2014.

• Fund flows into target-date funds slowed in the fourth quarter to $6.5 billion which is half of it’s average over the past 12 quarters. In 2014 net flows into target date funds were nearly identical to those in 2013. Total assets in target-date funds surpassed $700 billion at the end of 2014 which is the first time assets have climbed to such a level.

Finally, as we wrap up another year we decided to take a step back and take a look at what sort of trends are occuring within the custom target-date space. In our Spotlight section we examine those trends and discuss what plan sponsors are looking for next in this space. Target-Date Performance Summary

During the final quarter of 2014 the average target-date fund gained 1.7%, trailing both the S&P 500 and the Barclays U.S. Aggregate Bond Indexes for the second consecutive quarter. Those indexes have continued to outperform less risky asset classes such as large-cap U.S. stocks and aggregate bonds. For calendar year 2014 target date funds experienced a moderate return of 5.3% on average. Over the period target-date fund performance on average trailed that of the S&P 500 and Barclays U.S. Aggregate Bond indexes as diversification into other asset classes in both equity and fixed income dragged down performance. Table 1: Target-Date Performance Summary

Q4 Return 12-Month Return

Average Target-Date Fund* 1.7% 5.3%

Morningstar Lifetime Moderate Index 1.2% 5.2%

S&P 500 Index 4.9% 13.7%

Barclays U.S. Aggregate Bond Index 1.8% 6.0%

Source: Ibbotson Associates and Morningstar DirectSM (see end for important disclosure)

*Average of all open-end target-date funds that are tracked by Morningstar. Indexes shown are not available for direct investment. Past Performance is not a guarantee of future performance.

Jeremy Stempien

Contributors

David Falkof, CFA Investment Consultant Bryan Platz, CFA Investment Consultant

Director, Investments Ibbotson Associates

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Fourth Quarter 2014

Fund Family Performance The performance of target-date fund families during the quarter is summarized in Figure 1. We are now tracking 472 unique target-date funds with at least a one-year track record representing 52 fund families. In the fourth quarter Legg Mason liquidated the QS Legg Mason Retirement series of products. T. Rowe Price’s Target Retirement series now has a year of history and has been included in the analysis. This series is different from the T. Rowe Price Retirement series as the Target Retirement series uses a “to” glide path. The Retirement series uses a “through” glide path. In addition, John Hancock’s Retirement Living Through II series now has a year’s worth of history. This target-date series uses a portfolio of ETFs as underlying managers. The lines in the graph connect funds from the same fund family. Third-quarter net returns are plotted on the vertical axis and 12-month standard deviations are plotted along the horizontal axis. Equity markets performed well versus fixed income markets in the fourth quarter which explains the upward sloping lines. Fund families with more “basic” allocations to bonds and large cap equities outperformed funds with exposure to international equities, and commodities. Fund families that had larger exposures to real estate and small cap stocks performed better than fund families that avoided those asset classes. From a fixed income perspective, families with exposure in TIPS or high-yield bonds underperformed families with a more basic allocation of government and securitized debt. The three Morningstar Lifetime Allocation Indexes, representing conservative, moderate, and aggressive glide paths are displayed along the bolded red lines which are near the middle of the graphic. For the quarter, a majority of the retail target-date funds outperformed their respective Morningstar Lifetime Moderate Index counterpart across all Morningstar categories. Figure 1: Fund Family Performance –Q4 Return and One-Year Risk Ending 2014

Source: Ibbotson Associates and Morningstar DirectSM (see end for important disclosures)

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Fourth Quarter 2014

The same risk/return information for the year ending December 31, 2014 is displayed in Figure 2. In this figure, we see a slight upward sloping-graph representing how equity markets have outperformed fixed income markets over the last 12 months. The range of returns for individual fund families is fairly tight as fund families could not differentiate themselves between value and growth biases or international versus emerging markets. The biggest differentiator was exposure to REITs and commodities, but those asset classes tend to be a small portion of even the most aggressive target-date funds. The three Morningstar Lifetime Allocation Indexes are displayed along the bolded red lines and are clustered toward the middle of the graphic. Fund families that largely avoided commodities had an easier time outperforming the Morningstar Indexes as the underlying commodity index used in the Morningstar Lifetime Allocation Indexes tends to be more aggressive than other commodity benchmarks. Figure 2: Fund Family Performance – One-Year Return and One-Year Risk Ending 2014

Source: Ibbotson Associates and Morningstar DirectSM (see end for important disclosures)

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Fourth Quarter 2014

Target-Date Fund Performance

Figure 3 shows the fourth-quarter performance for every target-date fund we analyze relative to its assigned Morningstar Category as well as to the Morningstar Lifetime Allocation Moderate Index. The floating gray bars within the chart show the range of quarterly returns for the 12 target-date categories. The blue line within each bar identifies the category average performance. For nearly all the categories, there are large differences between the best-performing funds (“Max” row within the table below) and the worst-performing funds (“Min” row within the table below). The wide range of returns is primarily due to differences in equity and fixed income exposures across the funds. The average range between the best- and worst-performing funds in each category was roughly 4%. Similar to the third quarter, the Morningstar Moderate Index underperformed each category average this past quarter. The indexes have above-average allocations to commodities, which detracted from returns in the second half of 2014.

Figure 3: Target-Date Fund Category Performance Q4 2014

Category 2055 2050 2045 2040 2035 2030 2025 2020 2015 2010 2005 Income

Max 3.7% 3.6% 3.6% 3.6% 3.6% 3.3% 3.1% 2.8% 2.4% 2.0% 1.3% 2.2%

Average 2.0% 2.0% 2.0% 2.0% 1.9% 1.8% 1.7% 1.6% 1.4% 1.2% 0.9% 1.2%

Min -1.2% -1.3% -1.1% -1.2% -1.2% -1.3% -1.1% -1.0% -0.7% 0.0% 0.1% -0.7%

# of Funds (vs. Index)

Outperformers 33 41 38 40 35 33 31 33 28 15 5 28

Underperforms 4 6 6 8 9 15 13 15 13 10 4 5

Total 37 47 44 48 44 48 44 48 41 25 9 33

Index

Aggressive 1.0% 1.2% 1.3% 1.4% 1.6% 1.7% 1.7% 1.6% 1.5% 1.4% 1.2% 1.1%

Moderate 1.1% 1.2% 1.3% 1.4% 1.5% 1.6% 1.5% 1.4% 1.2% 1.1% 0.9% 0.7%

Conservative 1.1% 1.2% 1.3% 1.4% 1.5% 1.4% 1.3% 1.1% 1.0% 0.8% 0.6% 0.3%

-3%

-2%

-1%

0%

1%

2%

3%

4%

5%

Retu

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Source: Ibbotson Associates and Morningstar, Inc. (See end for important disclosures.)

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Fourth Quarter 2014

Asset Class Performance Quarterly performance for some of the most common asset classes that comprise target-date funds are displayed in Table 2. This data allows us to determine which asset classes were the primary drivers and detractors from performance during the fourth quarter of 2014. Table 2: Asset Class Performance – Q4 2014

Asset Class Q4 2014 Return

12-Month Standard Deviation

U.S. Large Growth Equity 4.8% 9.3% U.S. Large Value Equity 5.0% 8.3% U.S. Small Growth Equity 10.1% 16.1% U.S. Small Value Equity 9.4% 15.5% Non-U.S. Developed Equity -3.5% 9.7% Emerging Market Equity -4.4% 13.6% Real Estate 12.9% 11.8% Commodities (Futures) -12.1% 13.5% High-Yield Bonds -1.0% 4.5% U.S. Aggregate Bonds 1.8% 2.3% U.S. Short-Term Bonds 0.2% 0.6% TIPS 0.0% 4.4% Cash 0.0% 0.0%

Source: Ibbotson Associates and Morningstar DirectSM

Indexes shown are not available for direct investment. Past Performance is not a guarantee of future performance. The fourth quarter brought a dispersion of returns among equity asset classes. Within U.S. equities taking on risk paid off as small-cap equities beat its large-cap counterparts by nearly 5%. Small-cap growth stocks returned double digit returns with a 10.1% gain over the period whereas large-cap growth equities returned significantly less with a 4.8% return. Value stocks saw similar outperformance with small-cap value returning 9.4% versus 5.0% for its large-cap value counterparts. Overall U.S. stocks significantly outpaced non-U.S. equities, as stocks outside the U.S. were some of the worst performing asset classes. Developed non-U.S. stocks lost 3.5% while riskier emerging market stocks lagged further with a 4.4% loss. This was consistent with the relative performance for three of the four quarters in 2014 as non-U.S. stocks continued to underperform. Commodities wrapped up a terrible year with a drastic return of -12.1% during the fourth quarter. For the final three quarters of 2014, commodities was one of the worst performing asset classes. REITs on the other hand bounced back during the fourth quarter after a very mediocre third quarter to be the top performing asset class with a nearly 13% return. The asset class was a top performing asset class in three of the four quarters during the year. There was not much return to be had within fixed income during the fourth quarter as these asset classes provided very modest returns. The top performing fixed income asset class was U.S. aggregate bonds which returned only 1.8%, significantly less than most U.S. equity asset classes. The only other positive returning fixed income asset class provided in Table 2 was short-term bonds with a small 0.2% return. Seeking out yield from taking on more risk, such as investing in high-yield bonds, did not pay off during the fourth quarter as the asset class lost 1%. TIPS and cash ended the quarter flat with both returning 0.0%.

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Fourth Quarter 2014

Similar to Table 2, asset class returns and standard deviations for the past 12 months are displayed in Table 3. Table 3: Asset Class Performance – 12/31/2014 Trailing 12 Months

Asset Class 12-Month Return

12-Month Standard Deviation

U.S. Large Growth Equity 13.0% 9.3% U.S. Large Value Equity 13.5% 8.3% U.S. Small Growth Equity 5.6% 16.1% U.S. Small Value Equity 4.2% 15.5% Non-U.S. Developed Equity -4.5% 9.7% Emerging Market Equity -1.8% 13.6% Real Estate 28.0% 11.8% Commodities (Futures) -17.0% 13.5% High-Yield Bonds 2.5% 4.5% U.S. Aggregate Bonds 6.0% 2.3% U.S. Short-Term Bonds 0.8% 0.6% TIPS 3.6% 4.4% Cash 0.0% 0.0%

Source: Ibbotson Associates and Morningstar DirectSM Indexes shown are not available for direct investment. Past Performance is not a guarantee of future performance.

For calendar year 2014 there was a wide range of returns among the asset classes show in Table 3. Overall equities tended to outperform fixed income, as has been the case in four of the last five years. Within the risk spectrum, those asset classes that typically take on less risk outperformed those that take on more risk as can be seen with U.S. large-cap stocks outperforming U.S. small-cap stocks significantly during the period. Although growth and value stocks within the U.S. performed relatively similar overall, large-cap value outperformed small-cap value by 9.3% whereas large-cap growth outperformed small-cap growth 7.4%. U.S. equities in aggregate performed much stronger than non-U.S. equities in 2014. Developed non-U.S. equities lost 4.5% and emerging market equities lost 1.8% for the year. After a modest return in 2013, REIT’s bounced back with an exceptional year, returning 28% in 2014 making it the highest returning asset class in Table 3 by a wide margin. The performance of commodities has been quite the opposite. With a loss of 17%, commodities was the worst performing asset class. It is worth noting that despite the attractiveness of their inflation hedging characteristics commodities has been one of the worst performing asset classes for the past four calendar years. Within fixed income, U.S. aggregate bonds lead the way with a 6.0% return in 2014. This was followed by TIPS, which rebounded after a poor showing in 2013 when the asset class lost more than 8%. TIPS gained 3.6% in 2014. High-yield bonds, which was the top fixed income performer in 2012 and 2013, saw returns drop to a 2.5% gain in 2014. Finally, the less risky fixed income asset classes saw slightly positive returns. Short-term bonds returned 0.8% while cash stayed flat for the year.

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Fourth Quarter 2014

Morningstar Lifetime Allocation Indexes Table 4 presents the performance figures for the complete Morningstar Lifetime Allocation Index family, which is based on Ibbotson’s Lifetime Asset Allocation methodology. In December, every Morningstar Lifetime Allocation Index had a small negative result. However, the fourth quarter performance for every Morningstar Lifetime Allocation Index had a positive result. Due to the strong relative performance of equities versus fixed income in the fourth quarter, the indexes that have a higher percentage of their assets in equities, performed better. In the fourth quarter, most of the conservative indexes underperformed their aggressive counterpart for each target year. The exceptions being the further from retirement series as the aggressive indexes have a larger exposure to commodities. The trailing one-, three-, and five-year return data illustrates that these indexes have fared well over time. Table 4: Morningstar Lifetime Allocation Indexes

(As of 12/31/2014; multiyear periods annualized) 1 Month 3 Month 1 Year 3 Year 5 Year 1 Month 3 Month 1 Year 3 Year 5 Year

Income 2030Conservative Income -0.9% 0.3% 3.3% 4.2% 5.3% Conservative 2030 -0.8% 1.4% 6.1% 10.4% 9.3%Moderate Income -0.9% 0.7% 4.1% 6.4% 6.7% Moderate 2030 -1.0% 1.6% 6.0% 13.3% 10.8%Aggressive Income -0.9% 1.1% 4.8% 8.4% 7.9% Aggressive 2030 -1.2% 1.7% 5.9% 15.1% 11.6%

2000 2035Conservative 2000 -0.9% 0.4% 3.5% 4.4% 5.5% Conservative 2035 -0.9% 1.5% 6.1% 11.8% 10.0%Moderate 2000 -0.9% 0.7% 4.2% 6.6% 6.9% Moderate 2035 -1.1% 1.5% 5.8% 14.2% 11.1%Aggressive 2000 -0.9% 1.1% 4.9% 8.7% 8.2% Aggressive 2035 -1.3% 1.6% 5.7% 15.3% 11.6%






Source: Ibbotson Associates and Morningstar DirectSM

Indexes shown are not available for direct investment. Past Performance is not a guarantee of future performance.

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Fourth Quarter 2014

Fund Flows

During the fourth quarter of 2014, target-date funds experienced nearly $6.5 billion in asset inflows, which was half the historical three-year quarterly average of $13 billion. The asset growth of the retail target-date industry continued to slow down over the past year, as the organic growth rate fell below 1% in the fourth quarter of 2014 compared to 3% in the first quarter of the year. One reason for the slower growth is that fewer new retirement plans are adding target-date funds to their lineups. In addition, more plans have been shifting assets out of retail target-date funds and into collective trusts or custom target-date strategies. American Funds posted the largest fourth quarter inflows among target-date firms collecting $3.2 billion in new assets. With roughly half that amount, T. Rowe Price and Vanguard brought in $1.7 billion and $1.6 billion, respectively. Principal, on the other hand, had the largest outflows in the past quarter at $1.8 billion, resulting from one large retirement plan moving assets out of the retail target-date funds and into custom target-date strategies. Fidelity’s streak of outflows continued with $1.0 billion leaving in the fourth quarter. The firm has now seen five consecutive quarters of outflows from its open-end target-date funds. Total assets under management in retail target-date funds were $702 billion at the end of the fourth quarter, up $15 billion from the previous quarter. Net flows for the industry continue to be positive, and positive returns for target-date funds on average this past quarter contributed to the growth in assets. Vanguard holds the top spot as the largest provider of retail target-date funds with $193 billion in assets, followed by Fidelity with $187 billion and T. Rowe Price with $122 billion. The three firms continue to dominate the market, as they collectively manage 72% of the industry’s assets.

Table 5: Target-Date Fund Flows 4Q 2014

Asset Under Management ($Mil) Estimated Net Flow ($Mil) Target Date End Q3

2014 End Q4 2014

Q3 2014

Q4 2014

Income 27,229 27,156 (1,920) (189) 2000-2010 33,183 32,999 (562) (508) 2011-2015 63,161 63,292 (229) (690) 2016-2020 120,736 122,775 1,094 710 2021-2025 100,479 103,376 2,157 1,433 2026-2030 110,123 112,400 1,860 1,086 2031-2035 75,281 77,590 1,840 1,100 2036-2040 77,175 78,692 1,432 879 2041-2045 42,816 44,573 1,202 939 2046-2050 30,165 31,650 1,090 959 2051+ 6,794 7,661 703 780 Total 687,140 702,165 8,668 6,499 Source: Morningstar DirectSM. Universe includes funds with a less than one-year track record. Please refer to Morningstar® Cash Flow Methodology report for important methodology notes. (See end for important disclosures)

http://corporate.morningstar.com/US/documents/Direct/MorningstarCashFlowMethodology.pdf

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Fourth Quarter 2014

Figure 4: Quarterly Estimated Net Flows by Morningstar Category as of 12/31/14

Figure 5: Quarterly Organic Growth Rate by Morningstar Category as of 12/31/14

Source: Morningstar DirectSM

Source: Morningstar DirectSM

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Fourth Quarter 2014

Trends in Custom Target-Date Solutions Within the defined contribution marketplace, the use of custom asset allocation strategies as the qualified default investment alternative (QDIA) or default option has over the last several years moved from a fringe discussion for the largest defined contribution (DC) plans, to now a key consideration for plans of every shape and size. The reasons are varied, but retaining control of the glide path and fund implementation, incorporating non-core asset classes, and addressing the unique characteristics of plan participants, are leading to a higher level of interest than we have seen historically. This fall, the Morningstar Investment Management group held a series of webinars to discuss our most recent research in human capital and total wealth investing (“No Portfolio is an Island”, available here). The research is an extension of our foundational work on human capital and total wealth investing, as it explores new components of an individual’s total wealth that should impact asset allocation recommendations. Items such as a person’s industry, geographic location, and pension and housing wealth, are all factors worth considering beyond the traditional evaluation of age, salary, and savings. Plan sponsors of every size attended the webinars. When asked about their selection of a default option in their plans, over 50% of the sponsors answered that they had already adopted, or were considering, custom target-date strategies. In this quarter’s Spotlight Section, we highlight some of the trends in the custom target-date industry and share our thoughts on what to expect next. Custom for Everyone Custom target-date strategies were first adopted by mega plans. These large organizations had the internal investment staff, consultants, and engaged investment committees necessary for being early adopters. Over the last two years, plans of every size have found ways to implement custom solutions, which has dramatically changed the conversation around who should consider a custom target-date strategy. Fully custom, for these purposes, can be defined as conducting an in-depth analysis of the plan participant demographic and labor profile, and then designing a glide path and asset allocation customized to the characteristics of those participants. This type of analysis has typically attracted large plan sponsors to adopt a fully custom strategy, under the premise that a more tailored solution will lead to more appropriate outcomes. For many plan sponsors, however, this fully custom strategy may not be appealing for a number of reasons, most notably expenses and the perceived additional workload. Thus, the emergence of “semi-custom” solutions has been an appealing and viable option for these plan sponsors. Semi-custom can be defined as using a pre-established glide path, such as the Morningstar Lifetime Indexes shown in Figure 6, and implementing the strategy using the plan’s unique investment lineup. The result, a series of target-date strategies that are designed off an established glide path and leverage the funds in the plan. Unlike a typical retail target-date series, this semi-custom approach allows the plan sponsor to control the underlying investment vehicles and make sure that the work of the plan’s investment committee or consultant is being incorporated in the default option. A good example of this type of solution are the Lincoln Lifespan® custom portfolio services, which are often managed by Ibbotson Associates. Plan sponsors select among pre-set target-date glide paths and then receive a series of target-date portfolios constructed from each plan’s particular lineup of investment options. The range of asset classes (i.e. emerging market equities, TIPS, and high-yield bonds) used in the portfolios will vary based on the asset classes available in each plan’s lineup.

http://corporate.morningstar.com/ib/documents/MethodologyDocuments/ResearchPapers/No-Portfolio-is-an-Island.pdf

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Fourth Quarter 2014

Figure 6: Glide Paths for the Morningstar Lifetime Indexes

Historically, semi-custom solutions were all risk-based models, so as target-date funds rose in popularity, many plan sponsors made the switch from the semi-custom target-risk approach to retail or custom target-date strategies. As the semi-custom solutions expanded to include target-date designs, we have seen significant growth in these types of investment products. These programs can take on a range of designs, from pure guidance programs all the way to complete fiduciary coverage for the models. The investment work is often outsourced to asset allocation experts, such as the registered investment advisors within the Morningstar Investment Management group. When considering full or semi-custom, plan sponsors should check with their providers for the availability of such programs, and ensure that these capabilities are explored during the recordkeeping request for proposal (RFP) and due diligence processes. Plans should carefully evaluate the costs and efforts needed to implement and maintain a custom solution. Growth of Custom Practitioners At the time Tom Idzorek published the Morningstar Investment Management group’s cornerstone research, Lifetime Asset Allocations: Methodologies for Target Maturity Funds, available here, there were only a few firms creating custom solutions for the largest DC plan sponsors in the U.S. Those players were primarily asset allocation firms, such as Morningstar Associates and Ibbotson, Wilshire, Russell, and a few asset management firms with an expertise in asset allocation such as BlackRock and State Street. The landscape of custom solution providers has changed dramatically over the last few years, with most major consulting firms having built out their target-date capabilities, often leveraging the work of their actuary, defined benefit, and endowment and foundation practices. The result is many general consulting engagements now include custom target-date programs run by the general consultant, which has dramatically increased adoption of custom strategies in recent years. One concern among plan sponsors is whether the general consultant should be designing asset allocation programs, or whether a third party firm should manage the target-date strategies. Most general consultants are hired to provide investment oversight for the plan’s entire investment lineup,

http://corporate.morningstar.com/ib/documents/MethodologyDocuments/IBBAssociates/LifetimeAssetAllocations_new.pdf

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Fourth Quarter 2014

including the target-date strategies. If the default option, the target-date series, is managed by the general consultant, then the evaluation of the funds is no longer unbiased. More Custom It is the nature of the DC marketplace to always ask, “what’s next?”, and this question lately has come up frequently at DC related conferences and plan sponsor meetings. Plan sponsors continue to look for ways to improve outcomes for participants, which drives innovation in the custom solution marketplace. For early adopters of custom target-date solutions, the focus now is how current custom strategies can be more granular and customized to the individual participant. This has led to conversations about individualized advice and portfolios, and ultimately to managed account platforms as a solution. In Figure 7 below, we show the spectrum of solutions available along with the typical cost ranges for each offering. Generally speaking, the objective for solution providers is to push further to the right, as customized as possible, in a scalable way that can work for the bulk of DC plan participants. Figure 7: Solutions Available to DC Plan Participants and Range of Costs

From a pure investment perspective, if a custom target-date strategy can be thought of as a glide path designed to meet the needs of the median participant in a plan, managed accounts can be thought of as an actual glide path designed to meet the needs of the individual participant. Although we haven’t seen widespread adoption of managed accounts as the QDIA, we have noticed a very significant increase in discussion and due diligence in terms of utilizing these types of programs as the default option. In addition, the consulting community has developed more expertise on these products to be able to conduct the appropriate levels of due diligence. There are some retirement plan providers who have embraced managed accounts as a default option, most notably Schwab with the Schwab Index Advantage program, which includes the option to use Morningstar Associates for the creation of discretionary managed account portfolios for plan participants. The program offers managed accounts as the QDIA coupled with a low cost index mutual fund or exchange traded fund investment menu, which keeps the total plan costs at a competitive and appropriate level. We believe the adoption of managed account programs as the QDIA is a growing trend worth keeping an eye on.

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Fourth Quarter 2014

About Ibbotson Ibbotson Associates is part of the Morningstar Investment Management group, a unit of Morningstar, Inc., and is a leading independent provider of asset allocation, manager selection, and portfolio construction services. The company leverages its innovative and ground-breaking academic research to create customized investment advisory solutions that help investors meet their goals. Founded by Professor Roger Ibbotson in 1977, Ibbotson Associates is a registered investment advisor and a wholly owned subsidiary of Morningstar, Inc. For more information, contact: Ibbotson Associates 22 West Washington Street Chicago, Illinois 60602 312 696-6700 312 696-6701 fax www.ibbotson.com Important Disclosures Unless specifically noted, the performance data shown are net of administrative, management, and other on-going fees, but do not account for sales or transaction charges. Returns may be substantially less from the returns shown. The performance data shown represents past performance. Past performance does not guarantee future results. The above commentary is for informational purposes only and should not be viewed as an offer to buy or sell a particular security. The data and/or information noted are from what we believe to be reliable sources, however Ibbotson has no control over the means or methods used to collect the data/information and therefore cannot guarantee their accuracy or completeness. The opinions and estimates noted herein are accurate as of a certain date and are subject to change. The indexes referenced are unmanaged and cannot be invested in directly. This commentary may contain forward-looking statements, which reflect our current expectations or forecasts of future events. Forward-looking statements are inherently subject to, among other things, risks, uncertainties and assumptions which could cause actual events, results, performance or prospects to differ materiality from those expressed in, or implied by, these forward-looking statements. The forward-looking information contained in this commentary is as of the date of this report and subject to change. There should not be an expectation that such information will in all circumstances be updated, supplemented or revised whether as a result of new information, changing circumstances, future events or otherwise. Morningstar, Inc. is not a registered investment advisor. Except as otherwise required by law, Ibbotson Associates shall not be responsible for any trading decisions, damages, or other losses resulting from, or related to, the information, data, analyses, or opinions presented in Morningstar, Inc. materials referenced herein, or their use. They are provided for informational purposes only. The Morningstar Investment Management group, a unit of Morningstar, Inc., includes Ibbotson Associates, Inc., Morningstar Associates, LLC, and Morningstar Investment Services, Inc., all registered investment advisors and wholly owned subsidiaries of Morningstar, Inc. Appendix: Index Definition Morningstar Lifetime Allocation Indexes are a family of multi-asset class target maturity indexes available in three risk tracks: Aggressive, Moderate, and Conservative. Each risk track consists of 13 indexes ranging from a 2055 index to an income index. The glide paths and strategic asset allocations of the indexes is based on Ibbotson’s Lifetime Asset Allocation methodology. Security selection for each sub-asset class in the index family is provided by a matching Morningstar market index.

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Fourth Quarter 2014

Standard & Poor’s 500 Index: Market-capitalization-weighted index of 500 widely held stocks. Member companies are chosen based on market size, liquidity, and industry group representation. Included are the stocks of industrial, financial, utility, and transportation companies. Barclays Capital US Aggregate Bond Index – Broad-based benchmark that measures the investment grade, U.S. dollar-denominated, fixed-rate taxable bond market, including Treasuries, government-related and corporate securities, MBS (agency fixed-rate and hybrid ARM passthroughs), ABS, and CMBS. BofA Merrill Lynch US 3-Month Treasury Bill - Comprised of a single issue purchased at the beginning of the month and held for a full month. At the end of the month that issue is sold and rolled into a newly selected issue. The issue selected at each month-end rebalancing is the outstanding Treasury Bill that matures closest to, but not beyond, three months from the rebalancing date. To qualify for selection, an issue must have settled on or before the month-end rebalancing date. While the index will often hold the Treasury Bill issued at the most recent 3-month auction, it is also possible for a seasoned 6-month Bill to be selected. Barclays Capital Global Inflation Linked US TIPS Index – Includes securities which offer the potential for protection against inflation as their cash flows are linked to an underlying inflation index. The index represents a standalone multi-currency index exposed to the real yield curve for each relevant currency. Barclays Capital US 1-3 Year Government/Credit Bond Index – An unmanaged market value weighted performance benchmark for government and corporate fixed-rate debt issues with maturities between one and three years. Barclays Capital US Corporate High Yield Index – Covers the USD-denominated, non-investment grade, fixed-rate, taxable corporate bond market. Securities are classified as high-yield if the middle rating of Moody’s, Fitch, and S&P is Ba1/BB+/BB+ or below. DJ-UBS Commodity Index – A broadly diversified index composed of futures contracts on physical commodities traded on U.S. exchanges, with the exception of aluminum, nickel and zinc, which trade on the London Metal Exchange (LME). FTSE NAREIT Equity REITs Index – Spans the commercial real estate space across the US economy. The index series provides investors with exposure to all investment and property sectors. MSCI EAFE Index – Measures international performance and comprises 21 MSCI country indexes, representing the developed markets outside of North America: Europe, Australia and the Far East. MSCI Emerging Markets Index – A market capitalization weighted index composed of companies representative of the market structure of 26 emerging market countries in Europe, Latin America, and the Pacific Basin. Russell 1000 Growth Index – Measures the performance of the 1,000 largest companies in the Russell 3000 Index, with higher price-to-book ratios and higher forecasted growth values. Russell 1000 Value Index – Measures the performance of the 1,000 largest companies in the Russell 3000 Index with lower price-to-book ratios and lower forecasted growth values. Russell 2000 Growth Index – Measures the performance of the 2,000 smallest companies in the Russell 3000 Index with higher price-to-book ratios and higher forecasted growth values. Russell 2000 Value Index – Measures the performance of the 2,000 smallest companies in the Russell 3000 Index with lower price-to-book ratios and lower forecasted growth values.

Ibbotson Q4 2014 Target-Date Report

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Transcript of Ibbotson Q4 2014 Target-Date Report