Equity Market Performance Propels Strong Growth for DC Plans
DC plans measured as part of the Callan DC Index
realized a “healthy” 3.06% in return growth during the second quarter of 2017, reflecting strong equity market performance and the greatest first-half performance since the Index’s inception in 2006.
Combined with first-quarter gains, the Index’s year-to-date measurement now stands at 7.87%. Callan notes, however, that its DC Index, which tracks performance, asset allocation and cash flows of more than 90 large plans, still trailed the typical age 45 target-date fund, which gained 3.65% in the second quarter and 9.42% in the first half.
TDFs have benefited from higher exposures to non-U.S. equity and emerging markets, both of which are up sharply this year, according to the report. The typical DC participant has less than 1% in emerging market equity exposure and less than 6% in non-U.S. equity exposure, while the typical age 45 TDF has 5.2% in emerging markets and 20.1% in non-U.S. equity, the report shows.
Overall stock exposure by TDFs is greater as well, with the equity allocation of the typical age 45 TDF reaching 76%, compared to the typical DC participant’s 70% allocation. Callan notes that the Index’s overall equity allocation is slightly above its historical average of 67% and has been slowly increasing since the second quarter of 2016, but it has yet to achieve its pre-global financial crisis peak of 73% (in the fourth quarter of 2007).
Noting that the average TDF has outperformed DC plans by 76 basis points annually since the DC Index’s inception, the authors explain that TDFs overall heavier equity exposure means they tend to outperform in strong markets and underperform in weak markets.
Meanwhile, the report further shows that contributions have taken a back seat to return growth. For the quarter ended June 30, 2017, plan balances rose 3.19%, but this gain was almost entirely due to return growth (3.06%) rather than contributions, which added just 0.13%.
Callan notes that since the inception of the DC Index, the average plan balance has grown by nearly 8% on an annualized basis, with nearly three-fourths of this (5.88%) due to market performance and the remainder (2.08%) from contributions.
While not a surprise, participants also appear to be chasing non-U.S. performance, Callan observes, as the proportion of net flows into non-U.S. equities during the quarter was the highest since late 2007. The report shows that money primarily flowed out of stable value (-31.80), U.S. small/mid cap equity (-28.57) and company stock (-22.74), while TDFs attracted 69.47% of the net flows.
Callan points out that an average of more than 50% of net flows have been directed to TDFs over the Index’s history, solidifying TDFs as the largest holding in the typical DC plan.