Target date funds: Retirement planning made easy?
The formula seems simple. Determine the year in which
you want to retire and put a bull's-eye on the calendar. Go to your
employer-sponsored 401(k) or IRA, or to your individual brokerage
account, and find the "target date" mutual fund that matches
your retirement date. Start pouring your retirement dollars into
that one fund.
As the years go by, your fund is routinely rebalanced
and becomes incrementally more conservative. The theory is that
as your retirement date arrives, the changing asset mix will provide
the proper recipe for stability and growth.
Target date funds can help eliminate
the confusion many employees and investors feel when faced with
too many mutual fund choices in the typical 401(k).
Each fund is a mix of cash, bonds and stocks, including in many
cases some foreign stocks. The fund's name includes the retirement
year, and the funds are usually spaced five years apart (e.g., 2010,
2015, 2020, etc.).
But too often, employees don't use target date funds
properly, and you have to wonder whether one fund can really be
appropriate for everyone who retires in a given year.
Tim Swartley, of the trust department at Univest Corporation
in Souderton, Pa., cautions that the asset allocation of a particular
fund won't suit the risk tolerance of all individuals who plan to
retire in that year.
"Each fund family is different and each investor
is different. The answer is different for each person. I might want
to be as conservative as possible and that fund might still have
30 percent in stocks, when an individual may prefer to be 100 percent
in bonds. People have to understand what they're buying, and many
people don't peel back that layer to look at what's underneath."
Another potential problem is that employees aren't
given enough information regarding the philosophy behind target
date funds and how they should invest their money.
"The concept of the target date plan is a good
idea," says Greg Kasten, founder of Unified Trust, based in
Lexington, Ky., a company that devises employee retirement plans.
"The participant has a single portfolio and a single solution
geared, at least theoretically, toward a time frame. In practical
reality, it doesn't work.
"The concept is one-stop shopping, but people
don't do that. About 90 percent of the people who have money in
the fund have it in there incorrectly. It's just another fund that
they put their money in. They might have money in six other funds
-- growth, value, etc., and then maybe 15 percent in target date."
While that problem might be fixed by better educating
employees and other investors who consider these funds, another
situation might be more perplexing to consumers. The asset allocation
in a specific target date fund can vary from one firm to another.
Look at the 2015 target date funds from Fidelity,
T. Rowe Price and Vanguard, and you'll see quite a bit of difference
among them in asset allocation.
The T. Rowe Price fund looks to be the most aggressive
of the three with more than 66 percent of the portfolio in stocks,
a mix the company finds appropriate for someone 10 years from retirement.