The SEC has proposed rule amendments that, if adopted, would require three changes for target date retirement funds and one change for all mutual funds. First, funds that include a target date in its name must disclose the fund’s asset allocation at the target date immediately adjacent to the first use of the fund’s name in marketing materials. Next, all marketing materials for target date funds need to include a table, chart, or graph depicting the fund’s asset allocation over time, together with a statement that would highlight the fund’s final asset allocation. Additionally, the marketing materials must include a statement explaining that target date funds should not be selected based solely on age or retirement date and that the stated asset allocations may be subject to change. Finally, the SEC is proposing rule amendments that, if adopted, would provide greater guidance regarding statements in marketing materials for all mutual funds.

Target date funds are mutual funds that allocate their investments among various asset classes, automatically adjusting their asset allocations, or glide paths, to become more conservative as their target date approaches. The glide paths stop adjusting once the fund reaches it landing point, the final asset allocation among types of investments. Since the inception of target date funds in the mid-1990s, assets held by these investment vehicles have grown considerably. Currently, the SEC estimates that about $270 billion are invested in registered target date funds.

In 2008, target date funds did not perform as many investors expected. Funds with the same target date had widely divergent performance figures. For example, funds with a 2010 target date had losses ranging between -4 percent and -41 percent, with the average being about -24 percent. Consequently, the SEC and others have expressed concern that the names of target date funds lead investors to make incorrect assumptions about income guarantees and asset allocation/risk exposure of the funds on certain dates.

Proposed Amendments

The SEC’s proposed amendments would impact Rules 156 and 482 under the Securities Act and Rule 34b-1 under the 1940 Act. The proposed amendments change the content requirements of marketing materials for target date funds as well as the antifraud guidance for all mutual funds.

Content Requirements for Target Date Fund Marketing Materials

The proposed amendments to Rule 482 under the Securities Act and Rule 34b-1 under the 1940 Act would include the following three requirements for target date fund marketing materials:

  • A fund that includes the target date in its name (e.g. funds named “Portfolio 2020” or “Retirement Fund 2020”) would have to disclose the fund’s intended asset allocation at the target date. The types of investments would need to appear immediately adjacent to the first use of the fund’s name in the marketing materials. The SEC intends for the asset allocation disclosure to help investors assess variability among target date funds and whether the intended allocation meets personal risk tolerance levels.
  • Marketing material, whether or not the fund has a date in its name, would need to include a prominent table, chart, or graph clearly depicting the fund’s glide path or asset allocation over the entire life of the fund. The visual illustration would need to be immediately preceded by a statement explaining the asset allocation changes over time until it eventually reaches a landing point, and the final asset allocation at the landing point. The SEC stated that disclosing more information about the landing point should highlight that the glide paths of many target date funds are constructed to continue well into an investor’s retirement, with landing points sometimes falling 20 or 30 years after retirement.
  • Marketing material would need to include a statement explaining that the target date fund should not be selected based solely upon any single factor, such as the investor’s age or retirement date, but in conjunction with the investor’s risk tolerance, personal circumstances, and complete financial situation. Additionally, the statement should clarify that the fund is not a guaranteed investment and that it is possible to lose money in the fund, including before, at, and after the target date. Finally, the statement should detail the extent to which the intended asset allocation may be subject to change without a shareholder vote. The SEC stated that disclosing more information about the risks of target date funds will enable investors to better assess a fund’s long-term performance profile.

 Antifraud Guidance for All Mutual Funds:

The proposed amendments to the SEC’s antifraud guidance in Rule 156 of the Securities Act would apply to all mutual funds, not only target date funds. The proposed amendments would provide that a statement in marketing materials suggesting securities are an appropriate investment could be misleading in two different circumstances. The first instance when an investment company’s marketing materials could be misleading is if the material emphasizes a single factor, such as an investor’s age or tax bracket, as the basis for determining that an investment is appropriate. The second situation when marketing material would be considered misleading is if it suggests or represents, whether express or implied, that choosing the fund is a simple investment plan or that it requires little or no monitoring by the investor.

Impact on Fund Directors

In addition to proposing the changes to content requirements for fund marketing materials and the antifraud guidance, the SEC stated that it would expect target date fund boards of directors to monitor both the frequency and nature of the portfolio manager’s deviations from the fund’s glide path. Boards of directors would need to oversee the target date fund with more scrutiny than was previously expected. This oversight could include establishing a system for portfolio managers to report changes to the glide path on an ongoing basis.

While the proposal does not amend prospectus disclosure requirements or the fund names rule, the SEC is seeking comments on whether any such changes should be made. The comment period closed on August 23, 2010. Notably, in its comment letter regarding the proposed rules, the ICI cautioned the SEC to avoid the slippery slope of “singling out the marketing materials of a segment of the investment company industry for different treatment based on investment objective and type of investor.” To that end, the ICI requested that the SEC eliminate the requirements for tag line disclosure and the disclosure of asset allocations for marketing materials relating to a single fund. The ICI also asked the SEC to reexamine the proposed approach of requiring target date funds to disclose the percentage of assets allocated to types of securities as opposed to types of funds. The ICI also pointed out the potentially broad and unintended consequences of limiting funds’ ability to highlight critical information, including emphasis on a single factor as the basis for determining the appropriateness of an investment. For example, the ICI notes that funds that include “tax free” in their name could be criticized for emphasizing a single factor.

A copy of the SEC’s proposed amendments is available at: http://www.sec.gov/rules/proposed/2010/33-9126.pdf.