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Measure how well a target date fund has surfed the highs and lows 

8-minute read

THE TAKEAWAY

Use overall capture ratio to help evaluate target date success

Overview

Rich Lang

Multi-Asset Investment
Director

Investments with multiple, changing objectives can be challenging to evaluate.

Upside capture ratio – a measure of how well a fund did relative to a market index during periods when the index rose – can help gauge how fully a fund participates when markets appreciate. Similarly, when markets decline, downside capture ratio is used to measure how well the fund limited losses compared to the index. But how well do these measures work for a target date fund (TDF), which has to balance appreciation and preservation objectives both for young participants as well as those nearing retirement?

 

Like surfers, successful TDFs must ride the strong market waves without wiping out when the surf eventually crashes. To evaluate how effectively a TDF has achieved that balance, consider dividing the upside by the downside capture. The resulting overall capture ratio may help measure how well a fund balances building and preserving wealth.

The problem

TDFs are fast becoming a primary retirement vehicle for many U.S. workers, yet many investors lack the tools to evaluate how well their TDFs are helping them reach their retirement goals.

A potential solution

In combination with other factors, overall capture ratios may help measure the effectiveness – and desirability – of a target date series over time.

Impact

See overall capture in action 

These two infographics show how to determine a fund’s overall capture ratio and use it to assess effectiveness  

Use overall capture ratio to help measure a target date fund’s balance. In this illustration, an upside capture ratio of 97 meant the fund delivered all but three percent of the benchmark's appreciation while a downside capture ratio of 95 meant the fund was exposed to all but five percent of the benchmark's declines. In this case the quotient of 97 divided by 95 gave the fund an overall capture ratio of 1.02 relative to the benchmark of 1.00.

This example is hypothetical and for illustrative purposes only.

The hypothetical fund in this example gained 3% less than the index when the market rose, but dropped 5% less when the market fell. Thus, it did a good job of balancing the market’s waves. 

 

A look at a sampling of target date series in the marketplace shows that funds can have starkly different upside, downside and overall capture ratios.

This illustration first plots the upside capture ratio, then the downside capture ratio, and finally the overall capture ratio for six target date vintages (2055, 2050, 2045, 2035, 2030 and 2025) against the Morningstar category average. It shows that different series had the highest upside and lowest downside capture ratios. A third series, which had neither the highest upside nor the lowest downside capture ratio, had the best overall capture ratio. For Series A, the upside capture ratio was 100.8 for the 2055 vintage, 102.9 for the 2050 vintage, 102.7 for the 2045 vintage, 107.2 for the 2040 vintage, 107.7 for the 2035 vintage, 107.5 for the 2030 vintage, and 105.2 for the 2025 vintage. For Series B, the upside capture ratio was 94.5 for the 2055 vintage, 93.4 for the 2050 vintage, 89.3 for the 2045 vintage, 88.1 for the 2040 vintage, 86.9 for the 2035 vintage, 90.2 for the 2030 vintage, and 93.4 for the 2025 vintage. For Series C, the upside capture ratio was 103.4 for the 2055 vintage, 104.0 for the 2050 vintage, 104.5 for the 2045 vintage, 107.1 for the 2040 vintage, 107.3 for the 2035 vintage, 104.0 for the 2030 vintage, and 100.6 for the 2025 vintage. For Series D, the upside capture ratio was 101.9 for the 2055 vintage, 104.1 for the 2050 vintage, 104.7 for the 2045 vintage, 108.1 for the 2040 vintage, 109.1 for the 2035 vintage, 114.3 for the 2030 vintage, and 116.9 for the 2025 vintage. For Series A, the downside capture ratio was 93.4 for the 2055 vintage, 94.5 for the 2050 vintage, 94.2 for the 2045 vintage, 97.8 for the 2040 vintage, 97.8 for the 2035 vintage, 96.9 for the 2030 vintage, and 93.9 for the 2025 vintage. For Series B, the downside capture ratio was 91.6 for the 2055 vintage, 90.0 for the 2050 vintage, 86.5 for the 2045 vintage, 84.9 for the 2040 vintage, 83.9 for the 2035 vintage, 86.5 for the 2030 vintage, and 89.3 for the 2025 vintage. For Series C, the downside capture ratio was 105.7 for the 2055 vintage, 106.1 for the 2050 vintage, 107.0 for the 2045 vintage, 108.7 for the 2040 vintage, 108.5 for the 2035 vintage, 105.1 for the 2030 vintage, and 97.4 for the 2025 vintage. For Series D, the downside capture ratio was 97.3 for the 2055 vintage, 98.9 for the 2050 vintage, 99.7 for the 2045 vintage, 102.5 for the 2040 vintage, 103.7 for the 2035 vintage, 107.7 for the 2030 vintage, and 109.4 for the 2025 vintage. For Series A, the overall capture ratio was 1.08 for the 2055 vintage, 1.09 for the 2050 vintage, 1.09 for the 2045 vintage, 1.10 for the 2040 vintage, 1.10 for the 2035 vintage, 1.11 for the 2030 vintage, and 1.12 for the 2025 vintage. For Series B, the overall capture ratio was 1.03 for the 2055 vintage, 1.04 for the 2050 vintage, 1.03 for the 2045 vintage, 1.04 for the 2040 vintage, 1.04 for the 2035 vintage, 1.04 for the 2030 vintage, and 1.05 for the 2025 vintage. For Series C, the overall capture ratio was 0.98 for the 2055 vintage, 0.98 for the 2050 vintage, 0.98 for the 2045 vintage, 0.98 for the 2040 vintage, 0.99 for the 2035 vintage, 0.99 for the 2030 vintage, and 1.03 for the 2025 vintage. For Series D, the overall capture ratio was 1.05 for the 2055 vintage, 1.05 for the 2050 vintage, 1.05 for the 2045 vintage, 1.05 for the 2040 vintage, 1.05 for the 2035 vintage, 1.06 for the 2030 vintage, and 1.07 for the 2025 vintage.

Source: Morningstar ©2024 Morningstar, Inc. All rights reserved. The information contained herein: (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results. Capture ratio reflects the annualized product of fund versus category average returns for all months in which the category average had a positive return (upside capture) or negative return (downside capture).

This example shows how funds with the best upside or downside capture may not be best at balancing market and longevity risk. Fund A didn't have the best upside or downside capture ratio, but it had the best overall capture ratio.

Are you using the right measurement for target date funds?

Target date funds are fast becoming the primary retirement vehicle for most American workers, yet many lack the proper tools to evaluate how well they contribute to participant outcomes.

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