Target date funds just got smarter

Sep 7, 2016

BlackRock has announced changes to the LifePath® mutual funds series that include name changes and a further evolution of investment strategies. We spoke to Matthew O’Hara, PhD, CFA, Global Head of the Lifetime Asset Allocation Group at BlackRock, for insight.

Why is BlackRock making changes to the LifePath mutual fund series?

O'Hara: The reason we are making these changes is to better align the funds with the needs of plan sponsors, particularly those of mid-size and smaller plans, which often express interest in target date funds that are not purely index-based.

To that end, we have evolved the fund lineup to provide a choice between varying degrees of active management from smart beta screens and factor tilts to full active management and a dynamic glidepath.

It’s important to note that our LifePath Index mutual funds, which just celebrated their five year anniversary and were recently recognized with a Morningstar Analyst Gold rating1, are not making any investment process or strategy changes at this time.

Can you give us more details about the changes?

O'Hara: Our LifePath mutual fund series will be renamed LifePath Dynamic. We are adding access to more actively managed exposures inside of LifePath Dynamic, including strategies managed by our Scientific Active Equity (SAE) and Fundamental Fixed Income teams. We are also adding in Global Tactical Asset Allocation (GTAA). This is expected to double the risk budget of the funds and allow a full expression of BlackRock’s active ideas.

The LifePath Active series will be renamed LifePath Smart Beta. We are converting all of the exposures to be 80-90% smart beta ETFs, with some cap-weighted index exposures added in. The goal is to create a product that is between the LifePath Index funds and what will become the LifePath Dynamic funds in terms of active risk and cost.

The result will be three clearly delineated products across the active risk spectrum. If you believe that you can supplement savings with active management, we now offer two options for expressing that view, while continuing to offer an index target date fund series that’s been recognized by Morningstar as best in class.1

LifePath name change

How will Blackrock manage the LifePath Smart Beta series?

O'Hara: BlackRock has years of experience and a deep commitment to developing factor investing capabilities. Factor strategies screen for persistent drivers of return—for example, momentum, quality and value. Our recent introduction of smart beta iShares ETFs offers a new, low cost, efficient way for LifePath to access factor exposures.

The LifePath Smart Beta funds will use minimum volatility smart beta funds as well as what we call diversified multi-factor (DMF) exposures—a combination of size, value, quality and momentum. The mix will change to some extent over time—for example, the funds will allocate more heavily to minimum volatility exposures as an investor approaches retirement, which will allow for a higher equity landing point than traditional LifePath funds. For the fixed income allocation of LifePath Smart Beta, the funds will employ what’s called FIBR, which stands for the iShares Fixed Income Balanced Risk ETF. We believe about 75% or more of the risk an investor faces in the Barclays Aggregate index is from interest rates. FIBR seeks to balance the risk more evenly between interest rates and credit.

What’s different about BlackRock’s smart beta platform?

O'Hara: I think the insights behind smart beta are relatively well known and our analysis of them may be what sets us apart. It’s our ability to understand what the potential returns are associated with them. The hiring of Andrew Ang BlackRock in 2015, who was a professor at Columbia Business School and wrote one of the definitive textbooks on factor investing, certainly legitimizes our efforts and shows that we are committed in this space.

We will be a pioneer in the smart beta TDF, certainly in a mutual fund form. We have a long history in factors, with many clients invested in these strategies already. We have a team, led by a world-class expert on the subject that assesses the premium associated with smart beta factors and seeks to combine them in a meaningful way. The collaboration of Andrew’s team and my team to understand how smart beta relates to the lifecycle investing process to drive the final design for LifePath Smart Beta is another strength that we believe differentiates our products relative to others.

What specific active management experience will BlackRock bring to the LifePath Dynamic fund series?

O'Hara: Our experience in managing dynamic portfolios is quite extensive. Phil Green, who runs BlackRock’s Global Tactical Asset Allocation (GTAA) team, has been managing multi-asset portfolios for over two decades. The GTAA team manages $26 billion2 in assets for institutional and individual investors.

For the equity allocation, LifePath Dynamic will invest in active equity strategies managed by BlackRock’s fundamental, systematic, and smart beta investment teams. Our goal is to deliver additional risk-adjusted returns to investors by combining BlackRock’s global robust security selection platform with GTAA’s top-down macroeconomic process.

For the fixed income allocation, LifePath Dynamic will invest in bond strategies managed by BlackRock’s fundamental and systematic teams. By combining our fundamental active Total Return fixed income strategy with our active CoreAlpha Bond strategy managed by our Model-Based fixed income team, we’ve found that the resulting blend may give you a better outcome, thanks to the potential increase in diversification of returns.

For the LifePath Dynamic team, whatever looks attractive from an investment perspective is essentially on the table, subject to the constraints outlined in the prospectus. We don’t expect the funds to trade on a daily or weekly basis—in fact, we may not have an opportunistic position all the time. But the team can make changes when an opportunity emerges. The investment teams ask themselves questions like “Do we think interest rates are going to move in a direction that’s unexpected?” or “Do we think foreign stocks are going to be moving in a direction that’s not expected by the marketplace?” when determining whether there is an attractive opportunity for the fund.

Two years ago BlackRock made substantial changes to the LifePath glidepath. Are you making any additional changes with this announcement?

O'Hara: The answer is no, we are not. The LifePath glidepath will remain the same as of now, and will serve as the benchmark for the investments that we make in all of the LifePath funds.

The equity landing point for LifePath Smart Beta is approximately 45% at the point of retirement, compared to 40% for LifePath Index. But that higher equity allocation at the point of retirement is because a large portion of LifePath Smart Beta’s equity exposure may come in the form of an allocation to minimum volatility exposures. Historically, minimum volatility strategies have demonstrated lower risk than cap-weighted index strategies, so even though the allocation to equities is higher, the funds end up with a very similar risk profile. It could be thought of as tracking the index benchmark from a risk perspective, not necessarily from a headline asset class perspective.

What do these choices all have in common–what makes them all “LifePath”?

O'Hara: Ultimately, we are seeking to manage the LifePath series to help investors maintain a consistent standard of living, providing for retirement outcomes based on quantitatively measure risk and broad diversification across asset classes. That objective binds them together with a common strategic glidepath. What you’ll be getting from active management in LifePath Smart Beta and LifePath Dynamic is the potential for improved return over the beta returns you get from LifePath Index.

How would you summarize how these new products fit into the LifePath suite?

O'Hara: LifePath Dynamic fund is designed for plan sponsors who are seeking additional return, and may be appropriate for plans whose participant base has a higher risk tolerance or where participants are under-saved. LifePath Smart Beta will lie in the middle of the flexibility spectrum between our flagship Index product and the new Dynamic funds. LifePath Smart Beta is designed for plan sponsors that seek efficient exposure to active risk via factor-based exposures.

Matthew O’Hara
Global Head of the Lifetime Asset Allocation Group
Matthew O'Hara, PhD, CFA, Managing Director, is the global head of investment research for the Lifetime Asset Allocation Group and is Co-Chair of the US, ...
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