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What Does My Fidelity Target Date (Freedom) Fund Invest In?

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Fidelity is one of the largest providers of 401(k) plans and like many fund company platforms it is common for their plan sponsor clients to offer several or all of Fidelity’s Target Date funds known as the Fidelity Freedom funds. These funds have target dates from 2005 every five years out to 2050 with an even shorter-term Retirement Income fund. The premise behind these and other Target Date funds is that a plan participant will choose a fund with a date close to when he or she might retire, invest their contributions and let the fund manager do the rest. The funds typically lighten up on equity investments as the target date draws nearer, at some point they go to a “glide path” into retirement typically at the target year. This means the fund at that point is geared to the typical life expectancy of someone retiring in that year, the allocation allows the fund shareholder to “glide” into retirement.

There has been much controversy as to whether Target Date funds work as advertised. My purpose in writing this post is not to comment on these issues one way or the other. Rather I want to take a look at how the Fidelity Freedom Funds actually invest shareholder’s money.

The Freedom Funds like many Target Date funds are funds of funds. Each Freedom Fund has its own mutual fund ticker symbol. Unlike many mutual funds which make direct investments into individual stocks or bonds, the Freedom Funds invest in a variety of Fidelity mutual funds. Which funds and the percentage held of each fund will vary by Freedom Fund. I made a list of their underlying holdings using Morningstar’s Advisor Workstation. I then used the Fi360 Toolkit to rate these funds based on their 11 point criteria:

• Fund inception date (at least three years)
• Manager Tenure (min. 2 years)
• Minimum fund size
• 2 measures relating to fund investment style and asset composition
• Expense ratio
• 2 measurements of risk-adjusted return
• Trailing 1,3,5 year returns

All funds are rated relative to other funds in their peer group.

In looking at the 26 Fidelity mutual funds that I found as holdings of the various Freedom Funds I found the following for the ranking period ending 12/31/09:

• Three of the funds received the highest ranking of 0. This means no deficiencies, they passed all criteria.
• An additional four funds earned a score ranging from 1-25 indicating that they passed most of the criteria. This would indicate that these funds rank in the top 25% of all funds in their peer group with enough data to be ranked.
• Four funds had scores ranging from 26-50 indicating that they did not pass in a couple of areas but these funds overall rank in the top half of their respective peer groups based upon the ranking criteria.
• Five of the funds had a ranking in the 51-74 range indicating that they were deficient in several of the criteria and overall place in the lower half of their peers with enough history to be ranked.
• One fund had a score of 87 meaning that it was deficient in most areas and ranked in the bottom 13% of its peers. A ranking in this range indicates that strong consideration should be given to replacing such a fund.
• Nine of the funds did not have enough history to be ranked. These funds are all Fidelity Series funds. This appears to be a new group of funds that Fidelity has designed for use in their Freedom Funds. The funds all have anywhere from a month’s worth of history out to about a year. They would flunk the inception date test for the amount of time the fund has been around. These may ultimately prove to be good funds over time, but as an advisor I am generally loath to invest client money in new, untested funds unless there is a compelling reason to do so.
• Noticeably absent from the underlying funds within the Freedom Funds are any of Fidelity’s low cost core index funds covering areas such as the S&P; 500; total domestic stock market; international equities; or their total bond market index fund. These are by and large solid, low cost holdings. Also absent are several top Fidelity funds such as Contra, Low-Priced Stock, and others.

In their defense of the 11 numbered Freedom Funds, 10 earned a score of 0 for the most recent ranking period and the other one earned a top quartile score of 20. Keep in mind; however, these rankings are within the target date peer groups via Morningstar. All of these groupings have a small number of funds and there is not a lot of history in some cases. A really good or really bad quarter or two can skew a target fund’s relative ranking. Additionally the peer groupings have changed and been revamped at least twice in the past several years.

Should you invest in these funds? As a plan participant you need to understand the fund’s investment philosophy, the glide path concept, and the fund’s underlying investments. Remember just because a particular fund has a target date closest to when you might retire, you can go with a closer date fund if you want to be a little less aggressive or a longer-dated fund if you want to be a bit more aggressive.

Plan sponsors it is incumbent upon you to monitor the Target Date funds in your plan as closely as you would review any plan investment choice. In the case of a Fidelity plan you may or may not be limited to the Freedom Funds.

Again I am not saying the Freedom funds are good or bad. Clearly they did well relative to their peers in 2009. Participants and Sponsors need to understand these funds and what they can and cannot offer.

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Comments

  1. Russ says:

    Interesting post, Roger.

    As much as target-date funds have been in the media lately, it's nice to see a different perspective that addresses the structure of these funds and the quality of their component parts.

    I'm generally not a fan of target-date funds, but in some of my clients' company 401k plans, they're a better option than many of the other choices in their investment menu.

    Thanks for sharing your point of view on these

  2. Thanks for your comment Russ. Target Date funds run the gamut in terms of the underlying investments, the overall allocation, etc. In the case of Fidelity the quality of the underlying funds is lacking a bit in my opinion. In all cases I suspect that participants and sponsors don't really have a good handle on how these funds invest.

  3. Michael Case says:

    While I'm not a fan of applying style-box analysis to intertemporal funds, this is really interesting. However, my concern is that, for the 94% of plans stuck in the proprietary target date funds of their recordkeeper (source: Brightscope), might the conclusion of all the prudent monitoring be, "…so what"?

    Say a plan prudently monitors their Freedom Funds (as you, the DoL, and the preamble to the PPA advise) and concludes that too many fail the test. Do we really believe Fidelity is going to care? Are they going to suddenly stop using the fund of funds to incubate or park new or underperforming style box funds? Are they going to switch-out their underperforming 2010 and 2035 funds for, say, comparable T.Rowe options?

    Probably not.

    If not, might a plan put itself more in tort bar cross-hairs by going through the all the monitoring motions and doing nothing? Is it better to play dumb now and run to the ICI for monitoring criteria that is more 'accommodating' should anyone ask later? The point is that these guys have moved us back to the bad old days of closed architecture of the 1980s and, I fear, there's very little 94% of plan sponsors and advisers can do about it.

  4. Michael, thanks for your comment. I'm not going to comment on the very valid legal issues that you raise. Sponsors have some choices. Target vs. Risk-Based. If you will "buy vs. build." Depending upon the recordkeeper platform many plans (including a couple of my clients) are using advisor managed risk-based funds vs. the off the shelf porducts. My opinion is that it is the duty of the sponsor to monitor and understand these funds as in many cases they hold a large percentage of the employee assets. It will be interesting to see where this all goes. Perhaps one day a sponsor might be more apt to use say a Fidelity Fund in one target range, the T. Rowe fund in another and so on.

  5. I am thinking about starting my own business as a financial planner. Do I need to obtain certifications to enter the business in the olrando?

  6. Anyone can technically call themselves a financial planner. The CFP designation is widely recognized as the premier designation. If interested you should contact the CFP Board of Standards to learn more. If you offer investment advice you may need to register with the state of Florida as well.

  7. Thanks for sharing! I find your blog have some significant informative regarding some relevant research on this topic.

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