DESIGNING YOUR INVESTMENT MENU THE CHOICE IS YOURS As a plan fiduciary, the responsibility for creating an appropriate investment menu for your organization s retirement plan can seem overwhelming. From the basics outlined by 404(c) regulations to advanced options favored by active investors, there are literally thousands of options available to choose from. If you re wondering where to start, TIAA-CREF can provide you with the tools and support you need to determine the investment objectives best suited to your participants and to provide the most appropriate investment options to meet them. Our goal is to help you provide a retirement plan that will increase participant account balances and their ultimate retirement income. MENU DESIGN STARTS WITH AN INVESTMENT POLICY STATEMENT Best practice investment menu design begins with the construction of an Investment Policy Statement (IPS). While there is no DOL or ERISA requirement to draft and adopt an IPS, DOL interpretive Bulletin 94-2 encourages it. The IPS is an important tool that serves as documentation of your fiduciary activity. It can help you select the most appropriate investment options for your plan by: Defining plan investment objectives Providing participants a range of diversified funding options along the risk-return spectrum to assist them in their retirement investment decision making Describing the criteria and procedures the Plan will use in selecting investment options Defining the procedure for ongoing monitoring of funding options If you don t have an investment policy statement, you can use our IPS Questionnaire and sample IPS to help you create one. As you work through the questionnaire and see the sample, consider forming an investment committee to oversee investment selection and participate in ongoing review. Your IPS will state your retirement plan s goals. Investment selection then becomes a matter of finding the investments that best match them. FOR INSTITUTIONAL USE ONLY. NOT FOR DISTRIBUTION TO THE PUBLIC.
MENU DESIGN A GUIDE TO MAKING YOUR CHOICES Participants and plan sponsors want a variety of asset classes and investment options to choose from without being overwhelmed. We provide that variety through a list of available investment options covering a wide variety of asset classes. Options include a combination of TIAA-CREF and Partner Funds. Thorough due diligence has been applied to all, along with additional quantitative screening on nonproprietary funds. Whether using a model to start from or creating your own menu, it should be customized to suit your plan goals and participant personalities. Don t get sidetracked by what other retirement plans have. For example, it is perfectly fine not to include emerging markets or other categories not in line with your selection philosophy. Asset category performance and risk can vary over time. Your job as a plan fiduciary is to make sure each investment option in your plan would work together appropriately if someone owned every option available. At the same time, you need to make sure each fund could be held on its own with as little detriment as possible to a participant s financial outcome. In making your selections, it is important to find consistent funds instead of the best Star rated fund. One of the best ways to determine whether an option will perform consistently is by looking at investment objectives, risks and tracking error. The appendix of this document includes a list of Morningstar asset categories sorted by 15 year standard deviations. Investments in the categories at the top of the list have lower standard deviations than those toward the bottom. While past performance is no guarantee of future results, in general you would need to worry less about radical upswings or downswings with these investments. You can use the list as a guide when making your investment selections. Other important statistical considerations to take into account when developing your plan s menu include historical returns, correlations between asset categories, and the style consistency of underlying investment options relevant to their categories. Following are some additional considerations for effective menu design. Less Can Be More Once you ve covered 404(c) requirements, consider your participants needs. The number of funds should be reasonable. If you want to keep the number of options lower rather than higher, consider overlapping categories like small cap, mid cap and global with US options. These categories contain similar holdings so they may have similar risk/reward profiles. Offer choices suitable for all employees At TIAA-CREF we believe a well-diversified fund menu should include a threetiered investment lineup that contains a variety of investment options, each with different objectives, benefits and suitability to serve a wide range of investor needs. Consider that you have participants who are already retired, will retire in three years and will retire in forty years. FOR INSTITUTIONAL USE ONLY. NOT FOR DISTRIBUTION TO THE PUBLIC. 2
Include offerings for wealth accumulation and lifetime income Menu design isn t just about performance and categories. According to the 2010 Retirement Confidence Survey, 75% of workers report they will rely on employer-sponsored defined contribution (DC) plans for retirement income. So it s important for you to consider risks like adequacy of replacement income, short-fall and longevity when you make your investment choices. Remember your selections are for the long term The construction of an investment menu is not a one-time decision. Additionally, you must monitor the continued appropriateness of the selections you have made and periodically make adjustments. Ultimately, as a plan sponsor, you want to ensure that your plan s participants have a safe and secure retirement. A well-constructed investment menu that offers high-quality, innovative products designed to meet their replacement income target is one of the most effective ways to accomplish this goal. MODEL MENUS A FRAMEWORK TO START FROM TIAA-CREF s Guided Architecture approach to menu design incorporates the considerations above. It is designed to meet differing employee needs, while simultaneously implementing a prudent and proper fiduciary process. We have applied this approach to offer three sample retirement plan menus to help you get started. Each menu provides an overall structure and sample investment options from both TIAA-CREF and non-tiaa-cref asset managers. Read the descriptions below to see if one suits your needs. Then use the full list of available investment options on your plan s site to customize the menu for your plan, or use the tips above to help build your own. 1. Foundation A simplified offering of broad choices The Foundation sample menu offers broad diversification to meet and exceed ERISA 404(c) requirements (a minimum of three broadly diversified funding options with distinct risk and return characteristics). It covers expected standard asset categories including lifecycle funds, index funds, mutual funds and lifetime income options. 2. Extended Adding more choice The Extended sample menu offers additional choices to the Foundation menu. It goes beyond Foundation with access to a wider variety of fund managers, including those who use investment processes that track further from their benchmarks. 3. Advanced Global and opportunistic focus The Advanced sample menu takes menu design to a different corner of the investing world. The menu offers standard categories, but in distinctive packaging. The main focus of this menu is on fund managers that can be more opportunistic and global. The same managers may be available in the other menus, but the focus here is on options with expanded investment flexibility. Nevertheless, index options are still available for participants who don t care for this type of active management. FOR INSTITUTIONAL USE ONLY. NOT FOR DISTRIBUTION TO THE PUBLIC. 3
SUGGESTIONS TO BROADEN OR SIMPLIFY THE MENUS Once you select a framework that works for your plan, you can adjust it to follow the goals stated in your Investment Policy Statement. The following are suggestions to help you broaden or simplify the sample menus. 1. Foundation A simplified offering of broad choices Broaden by: Adding index funds for active options in mid and small blend categories Adding an asset category or two Offering a different fund in a category from the fund store Simplify by: If participants have other retirement plans for lifetime income options (e.g., defined benefit, IRA options or other DC plans with annuities), choose, remove or replace the annuities to eliminate redundant lifetime income options. Offer only index options for small- and mid-cap categories. Alternatively, you can choose value and growth or blend options that combine smalland mid-cap categories in one ( SMIDs ). This gives you the flexibility to remove the individual small-cap and mid-cap options. Eliminate international SMID cap and emerging markets if risk tolerance isn t appropriate for your participants. 2. Extended Adding more choice Broaden by: Including additional options within asset categories Substitute options with others from the store. Simplify by: Organizing the menu by tiers. Separate target date funds (in the Lifecycle category), core mutual funds (options listed with a Ticker symbol) and lifetime income options (those listed as Fixed or Variable Annuity in the Ticker Column). The number of options won t be reduced but choices will be clearer to the appropriate investors. Choosing only one option in each category an example would be to choose the active funds with more tracking error exposure Eliminating categories that don t fit your investment policy statement or participant requirements. Simplifying small- and mid-cap options by indexing, including blended options, or substituting a combined small-cap and mid-cap option (SMID). FOR INSTITUTIONAL USE ONLY. NOT FOR DISTRIBUTION TO THE PUBLIC. 4
3. Advanced - Global and opportunistic focus Broaden by: Changing index funds for active options in mid- and small-cap categories Expanding the menu with less opportunistic funds Simplify by: Offering options that combine small- and mid cap together Eliminating natural resources or emerging markets Making this a passive menu by adding index options Log on to your plan s website to access the sample menus, investment and benchmark performance and characteristics, along with a full store of investment options to choose from. TIAA-CREF is dedicated to providing you with some of the best ways to help ensure timely, safe and secure retirements for your employees. We consistently endeavor to do what is in the best interests of the institutions and participants we serve and hope you find this information helpful in meeting the crucial aspects of your fiduciary responsibilities as a plan administrator. BEGIN THE PROCESS NOW To learn more about how TIAA-CREF can help you meet your fiduciary responsibilities, please contact your TIAA-CREF Managing Consultant. If you are served exclusively by the Administrator Telephone Center, please call 888 842-7782, 8 a.m. to 8 p.m. (ET), Monday through Friday. Our consultants will be happy to help you. TIAA-CREF products may be subject to market and other risk factors. See the applicable product literature, or visit tiaa-cref.org for details. TIAA-CREF Individual & Institutional Services, LLC and Teachers Personal Investors Services, Inc., members FINRA, distribute securities products. You should consider the investment objectives, risks, charges and expenses carefully before investing. Please call 877 518-9161 or log on to tiaa-cref.org for a current prospectus that contains this and other information. Please read the prospectus carefully before investing. 2010 Teachers Insurance and Annuity Association College Retirement Equities Fund (TIAA-CREF), New York, NY 10017. C48052 FOR INSTITUTIONAL USE ONLY. NOT FOR DISTRIBUTION TO THE PUBLIC 18922-26601 (6/10)
APPENDIX MORNINGSTAR ASSET CATEGORIES BY STANDARD DEVIATION deviation is a risk measure that shows how far returns vary from their average. It includes both up and downside risk. Essentially, a fund will return its average plus or minus its standard deviation 68% of the time. So, if a fund has a 15% standard deviation and an annualized return over the same period of 10%, its return will fall between 25% and -5% only 68% of the time. Investments in the categories at the top of the list have lower standard deviations than those toward the bottom. While past performance is no guarantee of future results, in general you would need to worry less about radical upswings or downswings with these investments. NOTES: Source: Morningstar Direct. The 90 possible Morningstar categories have been reduced for this list and the Lifecycle category has been aggregated. This ranking is a snapshot of 12/31/09 data. It is intended to be used as a baseline guide to help determine which asset categories are most appropriate for your plan. Asset category returns and standard deviations may change from quarter to quarter. However, the overall ranking from lower to higher standard deviation generally remains consistent. Category (as of 12/31/09) 3 YEAR 15 YEAR US OE Money Market Taxable 4.23 $11,323 0.36 4.06 $18,156 0.52 US OE Ultrashort Bond 1.66 $10,052 2.90 4.12 $ 17,053 1.54 US OE Short Government 4.71 $11,401 2.29 4.97 $ 20,386 2.32 US OE Short-Term Bond 3.47 $10,840 3.33 4.76 $ 19,513 2.46 US OE Intermediate Government 5.20 $11,604 4.12 5.77 $ 22,872 3.71 US OE Intermediate-Term Bond 4.45 $11,270 5.97 6.04 $ 23,255 4.34 US OE Retirement Income 0.86 $10,222 9.92 5.77 $ 21,666 4.99 US OE Inflation-Protected Bond 5.34 $11,658 9.15 5.77 $ 26,275 6.10 US OE Target Date 2011-2015 -2.32 $9,392 15.13 6.37 $ 23,619 6.60 US OE Long-Short -1.30 $9,372 10.47 6.61 $ 22,546 6.72 US OE Target Date 2000-2010 -0.97 $9,973 13.29 6.84 $ 25,548 7.09 US OE World Bond 6.36 $11,923 8.83 6.70 $ 25,594 7.16 US OE Multisector Bond 4.06 $11,144 10.45 7.20 $ 25,302 7.30 US OE Bank Loan -0.91 $9,976 13.99 4.06 $ 19,652 7.51 US OE Currency 0.35 $10,232 15.05 2.56 $ 13,012 8.05 US OE Conservative Allocation 0.67 $10,214 10.68 5.85 $ 23,836 8.07 US OE Long-Term Bond 4.83 $11,653 11.61 7.09 $ 26,304 8.57 US OE High-Yield Bond 3.08 $10,766 15.40 5.68 $ 24,612 9.91 US OE World Allocation -0.15 $9,637 15.63 9.06 $ 32,137 10.61 US OE Target Date 2016-2020 -3.09 $9,295 16.68 6.96 $ 26,692 10.69 US OE Moderate Allocation -1.97 $9,434 14.83 7.12 $ 26,103 11.06 FOR INSTITUTIONAL USE ONLY. NOT FOR DISTRIBUTION TO THE PUBLIC. APPENDIX 1
Category (as of 12/31/09) 3 YEAR 15 YEAR US OE Long Government 5.25 $11,481 16.12 7.93 $ 27,007 11.10 US OE Target Date 2026-2030 -4.46 $8,833 19.58 7.26 $ 29,301 13.29 US OE Convertibles 0.07 $10,236 17.64 7.51 $ 31,976 13.31 US OE Emerging Markets Bond 5.32 $11,406 15.22 11.01 $ 58,049 14.54 US OE Large Value -7.32 $7,887 20.78 7.70 $ 28,667 15.02 US OE Target Date 2036-2040 -5.07 $8,649 20.61 7.37 $ 30,223 15.47 US OE Large Blend -5.53 $8,437 20.47 7.48 $ 26,643 15.79 US OE Foreign Large Value -6.62 $8,117 24.80 6.63 $ 24,191 16.94 US OE Foreign Large Blend -6.15 $8,260 24.74 5.18 $ 20,710 17.42 US OE Mid-Cap Value -5.35 $8,525 24.21 9.65 $ 38,908 17.57 US OE Foreign Small/Mid Value -5.82 $7,912 26.68 8.94 $ 30,065 17.76 US OE World Stock -4.38 $8,655 22.93 7.35 $ 25,761 17.92 US OE Europe Stock -6.82 $8,012 27.13 8.39 $ 34,362 18.08 US OE Small Value -6.13 $8,227 25.48 10.17 $ 40,730 18.18 US OE Bear Market -10.09 $7,308 30.04-6.37 $ 2,452 18.20 US OE Foreign Large Growth -4.93 $8,551 25.55 6.42 $ 20,686 18.31 US OE Large Growth -2.89 $9,044 21.15 7.19 $ 25,970 18.49 US OE Small Blend -6.11 $8,224 25.19 8.62 $ 38,206 19.31 US OE Mid-Cap Blend -4.62 $8,658 24.13 8.60 $ 38,111 19.47 US OE Diversified Pacific/Asia -2.92 $9,172 25.03 4.07 $ 16,307 19.82 US OE Foreign Small/Mid Growth -6.17 $8,573 27.83 10.76 $ 41,355 20.79 US OE Japan Stock -15.18 $6,036 23.30-1.34 $ 7,242 21.10 US OE Real Estate -13.42 $6,495 39.06 9.63 $ 40,092 21.23 US OE Mid-Cap Growth -3.09 $8,936 23.67 7.81 $ 31,611 22.08 US OE Global Real Estate -12.62 $6,666 29.82 6.39 $ 31,819 23.42 US OE Small Growth -4.89 $8,442 24.76 7.69 $ 32,356 23.68 US OE Natural Res 2.43 $10,399 32.20 11.25 $ 48,336 24.65 US OE Diversified Emerging Mkts 2.21 $10,722 32.97 7.69 $ 31,185 25.05 US OE Pacific/Asia ex-japan Stk 5.96 $11,876 34.39 6.87 $ 26,964 26.26 US OE Latin America Stock 7.97 $12,250 38.90 13.12 $ 50,088 31.09 FOR INSTITUTIONAL USE ONLY. NOT FOR DISTRIBUTION TO THE PUBLIC. APPENDIX 2