An investment product that has gained significant popularity in recent years is the target–date fund. This investment is also commonly referred to, as a lifecycle fund.
The basic premise of a target-date fund is quite logical, as the mix between stocks and bonds is based on someone’s planned retirement date. For example, a person who has a target-date fund in 2050 will be invested more aggressively than one who has a planned retirement date in 2020.
Most target-date funds with long time horizons will have investments in stocks and/or real estate of 75 to 95 percent.
When the retirement date is reached, these investments will typically drop to the 20 to 50 percent level. The main advantage of these funds is that the adjustments are made automatically, as the investor does not have to make any changes.
Many investors tend to be overly aggressive or too conservative. Oftentimes a younger person will have a significant amount of assets in a money market account, while someone approaching retirement may have a high percentage invested in stocks.
The target-date funds will prevent someone from having their mix of stocks and bonds be at inappropriate levels for their age.
Since target date funds can vary based on the provider, it is important to see how they are invested. One fund may have a retiree at 50 percent in stocks, while another provider could have that same person at 20 percent.
Some funds may keep their investments fairly standard, such as stocks, bonds, and money market. However, others may venture into commodities, real estate, and emerging markets, in addition to traditional investments.
It is important to examine what the fee structure of the target-date fund is, as they vary by provider. If the target-date fund is charging close to 1 percent per year, and if you could replicate that strategy with individual funds at less than .5 percent, the target-date fund may not be a good deal.
For someone who does not want to monitor their investments closely, or is not confident that they would make changes at appropriate times, target-date funds make sense.
For those who are more informed having a target- date fund is less important, or that person could elect to have a smaller percentage invested in the fund.
For those close to retirement age it is more critical to see if the fund is invested in accordance with someone’s objectives. An older person would probably have more assets outside a 401K plan versus someone younger, so someone would need to look at their total investment mix.
It might be appropriate for a younger person to have a majority of their 401K investments in a target-date fund dependent upon their investment knowledge. However, for those near retirement age a portion in a target-date fund might make sense, but probably not a large percentage.