We recently had a successful virtual event that we’re calling the VanguardNext series. I was fortunate to take part and have an in-depth discussion with nearly 100 of our clients. Not only was I able to share our strategy for retirement income solutions, but I was able to hear directly from engaged plan sponsors to see if our retirement income solutions, both current and what we’re planning, are meeting their needs.
It might sound crazy, but it reminded me of cooking for my daughters.
If I ask them if their homework is done, there’s a chance they might tell a white lie. But when it comes to my cooking, good or bad, they don’t hesitate to let me know. It makes sense. If they like something, they’re going to want it more often. If they aren’t fans, they don’t want me to make that dish ever again!
With hundreds, or even thousands, of participants’ financial well-being on the line, it’s not surprising that plan sponsors are similar. Whether or not things are going great in their plans, they let us know so we can continue down the successful path or pivot away from what’s not working. So these “face-to-face” meetings are vital for me and Vanguard to ensure we don’t get complacent with our retirement income solutions. They also present a great opportunity to provide greater insights into our decision-making and further gain their trust.
How do TDFs provide ‘income’ for retirees?
One question we heard from clients at the event was around income for retirees. Specifically, given yields on balanced and fixed income portfolios remain at historically low levels as seen here:
Low yields on traditional investments present a challenge for income-focused investors
Notes: Past performance is not a guarantee of future results. Bonds are represented 70% by the Bloomberg Barclays U.S. Aggregrate Bond Index and 30% by the Bloomberg Barclays Global Aggregate ex-USD Index. Equites are represented 60% by the Standard & Poor’s 500 Index and 40% by the MSCI World ex USA Index. Data are based on the last 300 months from October 1, 1994 to September 30, 2019
Source: Vanguard calculations, based on data from FactSet
The question was: Will our TDFs for participants at or near retirement age seek to generate income by overweighting higher yielding sectors of the bond market and/or dividend paying stocks relative to holding a market cap weighted portfolio? It’s a great question!
While certain bonds would help to provide more income, namely high yield bonds, they come with liquidity and default risk. Worse performance of these types of bonds tends to be highly correlated to the performance of stocks. Similarly, increasing exposure to dividend-focused equities would help to provide more equity income; however, dividend-focused strategies tend to be value-centric, resulting in a more highly concentrated portfolio and therefore higher risk. So, the benefits of extra income are, in our opinion, outweighed by the risks these sub-asset classes present.
So how do retirees holding TDFs receive the “income” they need to live? We believe the “income” component of retirement income is best provided through a more personalized service solution based on a retiree’s asset allocation and spending horizon. As a result, last summer we launched the Retirement Withdrawal Coach, which allows participants to begin taking monthly installments—“their retirement paycheck”—based on their asset allocation, spending horizon, and other personal factors. Further customization is available for participants who wish to further engage with the tool.
Intentionally leaving annuities out of a QDIA
Another popular topic at VanguardNext was annuities and whether they play a role in TDFs. Vanguard Target Retirement Funds don’t use annuities because they are not a best fit for all defaulted investors. As I mentioned in a previous blog, our research has found that retiree goals generally fall into four broad categories: basic living expenses, contingency reserves, discretionary spending, and legacy. Every retiree’s prioritization of these goals, risk tolerance around meeting each goal, and resources available at retirement, is different—and can vary quite dramatically. Combine this with unique health, longevity, and tax situations for every retiree and it’s easy to understand why we do not believe in adding a “one-size-fits-all” annuity allocation to our TDFs.
Having said that, we do believe that annuities can play a role in a retirement income strategy for some retirees—but as part of a more personalized solution. To this end, we are exploring an annuity modeling tool. This tool will determine the gap between a participant’s basic living expenses and Social Security, and then calculate the annuity purchase needed to fill this gap. For interested participants, we will continue to offer an out-of-plan option to purchase an annuity through Hueler Investment Services, Inc.
Moving in the right direction
Also in my previous blog post, I shared that we are currently thinking of modifying Vanguard Target Retirement Funds to better help participants with different goals. Depending on the participant, their ability to take on risk, and their retirement goals (meeting basic living expenses, maintaining preferred lifestyle, or transferring wealth), we think it makes sense to have TDFs with different equity landing points. And I was very encouraged to hear that 80% of VanguardNext attendees agreed!
As this is something I’ve been working on for a while, it was very rewarding to hear that what we’re thinking about is resonating with plan sponsors. I was also very pleased to share that direct feedback from clients with my boss!
We’re here to help
The last major takeaway from our VanguardNext session was that a majority of attending plan sponsors think their plans are retiree friendly, but they could use a little help. And that’s where we come in. Using our vast resources and expertise, we are ready to show you the recipe for a successful plan. Speaking of recipes, if any of you have one, or a dozen, that you think my teenage girls would like, please don’t hesitate to send them my way!
- All investing is subject to risk, including the possible loss of the money you invest.
- For more information about any fund, visit institutional.vanguard.com or call 800-523-1036 to obtain a prospectus or, if available, a summary prospectus. Investment objectives, risks, charges, expenses, and other important information are contained in the prospectus; read and consider it carefully before investing.
- Investments in Target Retirement Funds are subject to the risks of their underlying funds. The year in the fund name refers to the approximate year (the target date) when an investor in the fund would retire and leave the workforce. The fund will gradually shift its emphasis from more aggressive investments to more conservative ones based on its target date. An investment in the Target Retirement Fund is not guaranteed at any time, including on or after the target date.