Morningstar Advisor - October/November 2013 - (Page 64)

Gray Matters target-date series’ intended asset allocations for points along their glide paths from the funds’ prospectus, and for this analysis, we made the simplified assumption that 30% of each series’ equity stake was allocated to international stocks (a figure that’s in line with the industry average allocation to international stocks). Exhibit 2 Outcomes of the Industry’s Average Glide-Path Savings Balance (USD Mil) 18 16 14 12 10 8 6 4 2 23 30 37 44 51 58 65 72 79 86 93 Age Data as of Dec. 31, 2012 Exhibit 3 Probability of $0 Balance: Industry’s Average Glide Paths Average Equity Allocation Glide Path Probability of $0 Balance at Age Total Glide Path (%) Pre-Retirement (%) Post-Retirement (%) 75 (%) 85 (%) 95 (%) Average, All 59.7 76.6 35.2 3.3 23.9 42.0 Average, Through 61.3 79.1 35.2 3.7 22.9 39.8 Average, To 57.9 73.7 35.0 3.2 25.6 44.7 Data as of Dec. 31, 2012 We then established a profile for an average investor in a target-date fund: a 23-yearold worker who starts with $45,000 in annual wages, receives yearly raises to keep up with a 2% annual inflation rate, saves 7% of income each year, and expects to retire at 65. Standard industry studies suggest that this worker needs a retirement income that’s 83% of his salary at retirement to maintain a post-retirement lifestyle that’s similar to the pre-retirement one. (The retirement industry refers to that post-retirement salary percentage as a “replacement ratio.”) As such, our hypothetical worker would need income of about $37,350 (in today’s dollars) in the year after retirement. Social Security is expected to replace about 52% of the worker’s pre-retirement income ($23,400 in the first year of retirement), leaving 31% (about $13,950 in the first year) to be funded through savings. Defining Success Exhibit 4 Selected Target-Date Series Glide Paths Equity Allocation (%) Vanguard Fidelity T. Rowe Price 100 American Century BlackRock LifePath Industry Average, All 75 50 25 2055 2045 2035 2025 Data as of Dec. 31, 2012 64 Morningstar Advisor October/November 2013 2015 2005 1995 1985 There are a few ways to measure success using this approach. Some, for example, measure the probability of the worker having enough money at age 65 to buy an annuity that would meet the required income needs. Others, largely under the assumption that workers have other sources of savings outside of target-date funds, pick a certain withdrawal rate—say, 4% of initial savings at 65—and try to determine how long the workers would be able to draw that level of income in retirement. Given the low uptake rate of annuities—some estimates put the percentage of U.S. workers buying them in the low single-digits— and because target-date funds may represent

Table of Contents for the Digital Edition of Morningstar Advisor - October/November 2013

Morningstar Advisor - October/November 2013
Contents
Contributors
Letter From the Editor
How to Make Social Media Work for You
Do Mutual Funds Still Have a Role?
More Personal Than Finance
How to Handle Your TIPS Positions
A Real Estate Veteran Starts From Scratch
Investments á la Carte
Investment Briefs
When to Say No
Take a Guarded Approach to Homebuilders
Fund Distribution Has Been Turned on Its Head. Now What?
Winning the Distribution Battle
Active ETFs Wait for Their Heyday
A Fund Firm Defies Indexing Trend
Piloting New Channels
A Good Fit
The Predictive Power of Fair Value Estimates
Does Being Prudent Pay Off?
Utilizing Utilities’ Total Return
Stuck in the Middle Is Not a Bad Place to Be
Our Favorite Mutual Funds
50 Most-Popular Equity ETFs
Undervalued Stocks With Wide Moats
The Good Guys Win

Morningstar Advisor - October/November 2013