TARGET-DATE FUNDS ARE WORRYING ME
I can remember a time when many considered companies like IBM, Proctor & Gamble, Xerox and even Sears Roebuck and Company to be “one-decision-retirement stocks” – you buy them, forget about them and enjoy the benefits years later.
In fact – and now I’m dating myself – I remember some investors randomly picking a single stock from the “Nifty Fifty,” which were the 50 most popular large-cap stocks on the New York Stock Exchange in the 1960s and 1970s that were widely touted as great “buy and hold” stocks.
Seems like a quaint idea today, right? Well, I’m starting to get worried that some investors have the same mindset when it comes to Target Date Funds.
Here’s my beef: some investors consider target-date mutual funds as “one-decision-retirement-funds.” And I think that’s risky.
A Quick Primer. Target-date funds go by lots of different names, including lifecycle, dynamic-risk and age-based funds. Usually in a mutual fund format (although often in collective trust funds too), target date mutual funds provide for one-stop shopping and are designed to become more conservative as the “target date” approaches, which is usually retirement or when a child graduates from high school. In fact, target date funds are mostly used in those two scenarios – saving for retirement and saving for college.
The sponsor of the target date fund – a mutual fund company – manages the underlying asset allocation. In very simple terms, the mutual fund company will shift the allocation from higher risk/reward investments (equities) to lower risk/reward investments (fixed-income) the closer the “date” approaches.
Too Much Attention. According to the Investment Company Institute, target-date strategies have grown from $116 billion to $763 billion in the past 10 years. And target-date funds accounted for about 12% of all holdings in employer-sponsored retirement plans (401ks) in 2010. But that percentage is on track to jump to almost half in just 3 years.
That’s right – about 48% of all employer-sponsored retirement assets will be in target-date funds in 2020.
A Date When? There are over 2,000 target-date funds, with different asset allocations and different “target dates.” But recently I saw one of the leaders in the mutual fund world launch a new fund with a target date of 2065. That’s 48 years from now!
Geared towards younger investors, can there really be a “one-decision-retirement-fund” that “matures” in 48 years? I’m not going to argue the investing thesis behind the fund – after all, it is managed by a well-respected mutual fund company (let’s just say it rhymes with ran-guard). But I will say this to anyone considering this offering – life is not linear and your retirement planning should not be a single fund. Ever.
Life is Not Linear. Consider the following hypothetical: you are young, say 17 years old and you want to retire at age 65 – 48 years from now. What other life events will happen between now and then? If you’re lucky, you will probably experience many of the following (although probably not in this order):
Graduating from high school
College
First real job
First real car
Marriage
Baby
Second Job
First house
Second baby
And you will likely deal with one of the following during those 48 years too:
Loss of job
New career
Paying for your child’s college
Caring for parents
Divorce
Second marriage
Another child
Another house
Will a single retirement fund really be able to take all of these life-moments into account? I don’t think so.
Target-Date Funds Do Serve a Purpose. Now, this doesn’t mean that I don’t think target-date funds are useless. Quite the opposite actually. Target-date funds can be extremely useful.
In concept, target date funds can be terrific options for certain shareholders.If you’re considering a target date fund or want to learn more, give me a call so that we can walk through the pros and cons together.
Just don’t use them as a “single-decision-retirement fund.” Ever.