According to recent studies from Pensions & Investments, of the $3.7 trillion in defined contribution assets, 20 percent comes from target date funds. Since 2015, there has been a steady increase in these vehicles. We sat down with Denny Baish, senior investment analyst and portfolio manager, to hear his thoughts on target date funds, and the ins and outs that investors should know.
What are target date funds?
A target date fund is an “all-in-one solution” that an investor picks usually based on their expected retirement date. Target date funds provide broad exposure to multiple areas of the equity and fixed income markets, usually by investing in underlying funds in the same fund complex. These funds are used a lot in retirement plans for participants that don’t want to bother, don’t have the time or don’t know how to build out a proper asset allocation.
What are the benefits of target date funds?
A target date fund will ensure investors have a good asset allocation based on their age or expected retirement date. Also, investors in target date funds don’t have to worry about manager selection because the fund company will decide/manage the fund on the investor’s behalf. Investors also don’t have to worry about rebalancing since the target date fund manager will decide when to rebalance or when to invest opportunistically.
Overall, a target date fund provides great exposure (think US stock market, international, bonds, etc.), all while having a “hands-off” approach. It’s an easier way for an investor to get exposure to the market while maintaining proper asset allocations.
What are some downsides to keep in mind?
Since a target date fund tends to have a lot of underlying funds from the fund company, some of the underlying funds might not necessarily be that “good.” Another negative would be investors lose control of the asset allocation, fund manager selection, and strategic decision making. Basically, the investor can’t make any changes. Those decisions are instead up to the target date fund’s managers and the fund company.
Of course, we urge investors to never fully “set it and forget it” when it comes to a target date fund, or any retirement savings vehicle. Understand how a target date fund operates and check in periodically to see how the target date fund is performing based on your long-term retirement objectives.
How does a target date fund fit into the overall retirement plan?
This should just be one piece of an investor’s retirement planning process. Work with your financial advisor to discuss all pieces of the retirement puzzle — potential income and withdrawal needs, in addition to investments, other income streams such as pensions, Social Security, etc.
What is often overlooked when it comes to target date funds?
Fees can be a big issue. Underlying fees could be charged by each of the mutual funds being used in addition to another layer of fees on the target date fund itself. Additionally, investors should ask if there have been changes to the target date funds. Some fund companies have revamped their target date lineup by firing or doing away with all underlying active managers and investing only in underlying index funds.
While target date funds might be “easier,” it doesn’t necessarily mean they are a perfect fit for every investor and their retirement plan. Education is key, so be sure to ask your advisor any questions you have. We’re here to help navigate the retirement planning process along the way.