The DOL’s proposed regulation on selecting investments, including alternative assets, 2026-06178.pdf, identifies six factors that need to be considered in the process of selecting investments for participant-directed plans, such as 401(k) plans and private sector 403(b) plans. The six factors are: Performance, Fees, Liquidity, Valuation, Performance Benchmark, and Complexity. The proposal describes each of the six factors and provides 20 examples to illustrate their application.
In Alternative Assets (6), I discussed the first of those six factors—Performance, and the DOL’s description of the required process for evaluating performance (or, more accurately, expected future returns). In my last article, Alternative Assets (7), I reviewed the first of two DOL examples of the process for evaluating performance.
While not entirely clear, the description of the processes in the examples—both for this factor and throughout the proposal–could be viewed as one approach to satisfying the evaluation of the particular factor or it could be viewed as being the only way to satisfy the factor. If the latter, it would require major changes to the processes of most plan sponsors and advisers. Hopefully the final regulation will clarify the DOL’s intentions.
This article discusses the second example under the Performance factor. The second example is:
(2) Example. Time horizon—
(i) Facts. The named fiduciary of a plan (e.g., the plan sponsor or plan investment committee) with a predominantly younger workforce, working with a third-party investment advice fiduciary within the meaning of section 3(21)(A)(ii) of ERISA, considers three target date fund series. The investment advice fiduciary analyzes the historical performance of each series over the past 1-, 3-, 5-, and 10-year periods. After considering the historical performance data for these periods, the named fiduciary adopts the investment advice fiduciary’s recommendation to rely most heavily on the 10-year historical performance data as most probative for purposes of selecting the designated investment alternative.
(ii) Analysis. A plan fiduciary, with the benefit of third-party investment advice fiduciaries, when appropriate, need not select an investment strategy with the highest returns during a short or most recent period of time. Given the long-term nature of retirement savings, it is often prudent to give greater weight to the long-term historical performance of possible designed investment alternatives over short-term performance.
(iii) Conclusion. A plan fiduciary selecting a designated investment alternative should consider the appropriate time horizons for retirement savings. In so doing, the plan fiduciary should seek to maximize returns for a given level of appropriate risk, consistent with the participants’ likely needs over the course of the anticipated investment, which, because of the long-term nature of retirement savings, may be a long time horizon, depending on the particular facts and circumstances. By doing so, including by engaging and relying on third-party investment advice, when appropriate, to analyze and explain how to evaluate past performance, the plan fiduciary shall be deemed to have satisfied the requirements of paragraph (g) of this section.
(The bolding is mine…to highlight some of the points that I consider to be important.)
Comment: I have trouble with this example. First, I don’t think that fiduciaries for small and mid-sized plans typically review three or more target date fund series when deciding to include TDFs in their plans. If the DOL is saying that fiduciaries must review at least three different TDF suites—and it appears that it is—that position should be made more explicit—since it will require material changes to typical fiduciary processes. In addition, the DOL should make clear its expectations about the facts that fiduciaries should evaluate in making decisions about selecting the appropriate target date suite. I don’t think that, as this example suggests, a predominately younger workforce is a material factor because TDFs handle the age differences through the target dates in the series, e.g., the 2030 fund for older participants expecting to retire then and the 2060 fund for younger participants who intend to retire at that later date.
Instead of the predominant age of the workforce, I think that other factors should be considered. For example, for a construction industry plan sponsor, it may be appropriate to select a more stable, less volatile TDF series….so that when workers are laid off in a recession, their investment values haven’t cratered. But, for a hospital where there might not be layoffs in a recession, that would not be a consideration.
Returning to consideration of the predominant age of the workforce, if a youthful workforce has a high turnover rate, that could suggest a less volatile investment lineup. I like the idea of considering the covered employees is selecting the investments and particularly the target date series, but I think it is much more complex than this hypothetical fact situation suggests.
I think that the emphasis on time horizons is problematic for other reasons. For example, I have read that the median employment in our country is roughly 4 years. In that case there is at least some argument that the appropriate time horizon is 4 years. However, a different approach would be to think of people as being on a retirement continuum—in the sense that when the leave one job, their 401(k) money will be rolled over to another plan or IRA—in which case the appropriate time horizon would be their personal retirement horizon, which would most often be decades, not years.
With regard to the DOL’s point about giving greater weight to 10-year performance, I leave that to investment advisers to consider. One thought on that, though, is that the real world is more complicated than the example. If there were an investment manager change, and the manager who was responsible for the 10-year performance were no longer there, then it may not be appropriate to heavily the 10-year record. Also, my view is that the evaluation should be of the investment manager of the fund, In that case, the historical performance of a fund is only one factor in determining if it is likely that the manager’s strategy and execution can reasonably be expected to continue in the future, as opposed to, the performance history being attributable to a period of years that favored the manager’s strategy, but may not continue into the future—think of 1999 and the technology, media and telecom stock markets that later went bust.
Two final thoughts. First, this example, as do other examples, illustrates the DOL’s thinking about the importance of using qualified advisors. Second, the DOL makes clear its expectations that fiduciaries should always evaluate a range of investments, including target date funds—for which, in this example, the DOL use three TDF suites.
The preamble discusses this example:
Proposed paragraph (g)(2) provides an example of a fiduciary’s consideration of time horizon. In this example, a named fiduciary considers three target date fund series and selects a target date fund after considering the past 1-, 3-, 5-, and 10-year historical performance data, but relying most heavily on the 10- year data. In doing so, the named fiduciary relied on advice from a third-party investment advice fiduciary within the meaning of ERISA section 3(21)(A)(ii). The example in paragraph (g)(2) confirms that a plan fiduciary need not select an investment with the highest returns during a short period of time or the most recent period of time. An appropriate time horizon for retirement savings may be a long-term horizon due to the long-term nature of retirement savings.
Comment: I like the point that fiduciaries are entitled to take a longer time perspective. I think that most already do, but it doesn’t hurt to emphasize that.
Concluding Thoughts
While I don’t think the example works (that is, the “younger workforce”), I do like the point being made…that fiduciaries can and should consider the demographics of the participants in making decisions about plan investments.
And, while the consideration of three or more competing target date suites may be different than the common practice (particularly for small and mid-sized employers), there is something to be said for it. For example, plan fiduciaries should consider the participants in making decisions about the asset allocation and glide path of the various target date managers—and then compare that to the needs and circumstances of the covered workforce. That has the potential to improve the selection of TDF suites by requiring fiduciaries to consider the TDF design that matches the participants.
