Target-date funds get plenty of praise in Morningstar's latest report, although it also found that growth in TDFs in 2014 fell into the single-digits for the first time in a decade, despite netting nearly $50 billion for the year.
Starting with the positive, the report said annualized asset-weighted average investor returns — which take into account when funds flow into any given series — came in at 6.1 percent over the past 10 years. That's 1.1 percent higher than the typical funds' average total returns – an indication, it said, that investors are using TDFs effectively.
The report also said longer-dated funds tended to beat shorter-dated funds. This is unsurprising in the context of a strong stock market, as TDFs are more heavily invested in equities early on to promote higher returns with higher potential risks and shift their asset mix to more conservative investments, such as bonds, as the investor gets older.
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What might surprise some investors, however, is that the differences weren't starker, it said.
U.S. stocks, as represented by the S&P 500 Index, rose 13.7 percent last year, or more than double the Barclays Capital U.S. Aggregate Bond Index's 6 percent return. Yet, the average 2050 TDF, which had a roughly 90 percent equity stake at the end of 2014, delivered only about 1 percentage point over the average 2015 TDF, which had close to a 40 percent stock stake.
Even more unusual, a number of series saw their funds with shorter-dated vintages outpace their longer-dated counterparts, a pattern more often associated with periods of market stress, such as 2008 and 2011, Morningstar noted.
In any case, investors are also paying less on average for their TDFs, according to the report, which said that the industry's asset-weighted expense ratio fell from 0.84 percent in 2013 to 0.78 percent in 2014.
The amount of assets in TDFs exceeded $700 billion in 2014, though "organic growth" was only at 8 percent, down from 10.5 percent in 2013.
"It's not surprising that as the target-date industry has continued to mature, growth would slow," said Janet Yang, Morningstar's director of multi-asset class manager research.
TDFs, she said, still notched the third-highest organic growth rate of any U.S. category last year, "further cementing their status as the investment of choice for U.S. workers' retirement savings."
Despite all that, not everyone is thrilled with TDFs.
Critics see target-date funds as having played a role in people losing large chunks of their retirement funds during the 2008 crash.
A lack of standardization regarding how TDF portfolios are weighted between high risk and low risk investments and how the asset mix changes over time is another big concern.
Still, mutual funds love TDFs. Flows to target-date funds accounted for more than 30 percent, on average, of the overall net new inflows to fund firms in 2014, Morningstar noted. In total, TDFs represented about 8 percent of these firms' total mutual fund assets as of December.
Vanguard became the industry's largest target-date mutual fund provider last July, elbowing aside Fidelity after its 16-year reign. Together with T. Rowe Price, the three providers account for 71 percent of the industry's assets, Morningstar said.
"Fast up-and-comers," it said, include JPMorgan and American Funds, though both still have market shares that hover in the low single digits.
The firm's report also noted that alternative investments have become increasingly common in TDFs.
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