Morningstar Advisor - December/January 2010 - 17

when losses in the 2010 category ranged from a modest 9% [for one fund] to a breathtaking 41% [for another],” Rekenthaler said. “Both funds carried the same ‘2010’ label and were aimed at employees of the same age.” 5 Lack of transparency. “In gathering the data for an industry survey, Morningstar struggled to collect even the basic stock/bond/cash information for some of the target-date funds,” Rekenthaler said. “If Morningstar with its market presence and staff of data experts scrambled to learn the characteristics of the industry’s target-date funds, then surely the everyday employee who seeks to learn more about his default investment faces real difficulties.” Rekenthaler testified that Morningstar recommends improved disclosure as the prescription for addressing the five concerns: 1 Create three new data tables that would be used only for target-date funds. r A table comparing the fund’s fees against the industry median fee and the industry’s cheapest fees. r A table showing the fund’s use of proprietary mutual funds, again comparing with the industry median and the industry’s lowest use. r A table comparing the fund’s glide path against the industry median. The fund company would be required to mention areas where it differs significantly from the median and the reasons for those differences. 2 Move the manager ownership information that is contained within the obscure Statement of Additional Information to a position of greater prominence in the prospectus. “Target-date funds are a clear benefit to employees who have 401(k) plans,” Rekenthaler said. “They must improve further, however, if they are to fully earn their position of being at the heart of America’s retirement future.” There’s more on Morningstar’s target-date fund research on Page 26. Dollar-Proofing with ETFs The rising concern about the U.S. dollar’s value has become impossible to miss. Gold has risen above $1,000 an ounce; investors desperate for energy exposure have kept natural gas in steep contango all year; and every other day, Morningstar’s ETF analyst team gets an e-mail asking about foreign currency funds such as PowerShares DB US Dollar Bearish UDN. To address these concerns, Morningstar ETF analyst Bradley Kay drew up a model portfolio for investors who have a bearish opinion of the world’s biggest currency. The portfolio contains a hefty 58% allocation to global equities. For U.S. equities, Kay uses Vanguard Total Stock Market VTI and avoids overweighting U.S. small caps, which lack the foreign revenues that could cushion U.S. large caps in case of a dollar decline. After an incredible runup in 2009, Kay also avoids overweighting emerging-markets stocks relative to other foreign markets. “Thus, the two Vanguard ETFs based on the cap-weighted FTSE All-World ex-US indexes worked beautifully to fill out our sizable foreign equity stakes,” Kay says. He substantially overweights international small-cap stocks, because they do the least business in U.S. dollars. Kay allocates 20% of the portfolio to fixed income and splits the stake between domestic and international inflation-protected securities. “Because a falling dollar probably means that central banks are dumping U.S. bonds and yields are rising, we kept our TIPS allocation in a short-duration fund,” Kay says. He says that he would have added foreign credit bonds to the portfolio but that is not possible with the ETFs available today. Instead, he splits 10% of the portfolio between two currency ETFs that together cover a range of the biggest global currencies. Kay puts the remaining portions of the portfolio in gold (“it will certainly benefit if the dollar falls further”), small oil and gas producers (“to The Dollar-Proof Portfolio Alloc- Asset ation Class (%) Name Expense Ratio (%) 20 28 10 10 10 5 5 5 5 2 U.S. All Cap Intl Lrg Cap Intl Sm Cap U.S. TIPS Intl Infl-Prot Vanguard Total Market Index VTI Vanguard FTSE All-World ex-US VEU 0.09 0.25 Vanguard FTSE All0.38 World ex-US Sml Cap VSS PIMCO 1-5 Year U.S. TIPS Index STPZ BondsSPDR DB Intl Gov Inf-Prot Bond WIP 0.20 0.55 0.50 0.55 0.40 0.48 0.00 0.30 Dev Mkt Cash PowerShares DB U.S. Dollar Index Bearish UDN Emg Mkt Cash WisdomTree Dreyfus Emerging Currency CEW Physical Gold Energy Producers Agriculture SPDR Gold Shares GLD iShares DJ US Oil & Gas Exp & Prod IEO Monsanto Corp. MON Asset-Weighted Average Cost capture energy prices”), and Monsanto MON (“whose genetically modified crops will provide the higher yields demanded by farmers as prices rise”). The portfolio is not immune to a falling dollar, Kay admits. He says that it’s more dollar-dulling than dollar-proofing. After all, it would be unwise to move entirely out of the dollar and into protective assets such as commodities and short-term bonds. If the bet turns out incorrect, such a skewed portfolio would miss out on considerable potential gains while also opening itself up to severe losses from falling gold and energy prices. Without tremendous certainty about an impending collapse, Kay says that investors should stay diversified and merely tilt away from worrisome exposures. MorningstarAdvisor.com 17

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Morningstar Advisor - December/January 2010

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