The shift to 401k retirement plans over the last thirty years has placed complex investing responsibilities on the shoulders of average workers – most of whom are not well-prepared for this responsibility.
Target Date Funds (also known as life-cycle funds) are designed to make investing for retirement more convenient by automatically changing your investment mix or asset allocation over time. Asset allocation involves dividing an investment portfolio among different asset categories, such as stocks, bonds, and cash investments. Once you select a target date fund, the professional investment managers of the fund make all the decisions about asset allocation. Target date funds are aimed primarily at 401k investors who are not sophisticated about investing, but nonetheless are fully responsible for growing their 401k’s into a retirement nest egg. Rather than trying to figure out how to allocate and re-balance savings between investment categories, target date funds focus on a specific end date (such as the year you reach retirement age). Investments are progressively rebalanced for you from aggressive/riskier investments to conservative/safer vehicles as you near retirement.
The following sample shows how a target date fund may change the mix of investments (stock, bonds, cash) over time. As target retirement date nears, the investment mix becomes less risky. This sample highlights a target date fund that carries the investor “through” retirement target date, rather than “to” the target retirement date.
The Wall Street Journal lists these 5 questions that 401k investors should ask about the target date fund they are considering before investing:
- What Is the Fund’s ‘Glide Path’?
- Is the Fund Intended to Get Investors ‘to’ or ‘Through’ Retirement?
- How Much Does This Fund Cost?
- Does This Fund Take a Strategic or Tactical Asset-Allocation Approach?
- Is the Fund’s Portfolio Diversified Beyond — and Within — Stocks and Bonds?
Target dates vary widely in their investment approach and goals. It is important that the 401k investor learn about the target date fund by reading fund literature and asking questions like the ones shown above. The Department of Labor (DOL) and the Securities and Exchange Commission (SEC) recently published very helpful information bulletin on target date funds.