Default Options and Market Power: Evidence from Target-Date Funds

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This paper studies how default investment options generate market power in the U.S. retirement savings market. Focusing on Target Date Funds (TDFs), the predominant default option in 401(k) plans, we show that the fees charged by TDFs in excess of their underlying funds (i.e., the wrapper fees) increased from about 3 basis points in 2010 to nearly 15 basis points in 2022. This increase is consistent with rising market power among TDF managers, who exploit fee-insensitive default investors. To quantify this market power and evaluate policy interventions, we develop and estimate a structural model of demand and fee setting in both TDF and non-TDF markets. Preventing price discrimination between TDFs and non-TDFs increases TDF investors’ welfare by 1.2 billion, with only modest reductions in fund manager profits.