Target-date funds is a phrase you may come across when looking at investment options in a 401(k), 403(b) or other type of defined contribution retirement plan. The media loves to talk about them as well. In fact, according to Morningstar, there is over $750 billion invested in target-date funds. But do you know what a target date fund really is or if it is the right choice for you?
What is a Target Date Fund?
A target-date fund is an all-in-one fund that manages the investment mix based on the date you want to retire. It contains stocks and bonds that are rebalanced to maintain an appropriate mix given your age. As you get closer to retirement (assuming you retire at 65), the mix becomes more conservative. They are often the default option in many retirement plans. However there are pros and cons to target-date funds:
Pros
- For those lacking time or resources to actively manage their retirement account, this falls into that “something is better than nothing” category.
- You can set it and forget it.
- It is re-balanced automatically.
- It is diversified and has professional oversight.
Cons
- It may have higher fees because of the underlying funds.
- You don’t get to select your own allocation.
- Only takes into account your age and not risk tolerance.
Is it right for me?
These funds can provide a starting point for many young investors who are starting to save for retirement. If you are starting a new job, you may not have the time to spend researching all the available funds in your new 401(k) to create an asset allocation for yourself. You are busy trying to crush it at work! They may be better than just picking all employer stock or the fund that did best last year. As your account grows, you should consider all of your options and look at switching to something that is more tailored to your personal goals. A financial professional can help you identify funds that may have a lower cost or may be more appropriate for you. Your allocation should be based on your personal goals and needs. Work with someone who can help you identify those goals and figure out how to allocate your assets based on those goals.
For those of you in your 40’s and 50’s who are in target-date funds, there might be better options for you too. For anyone, an investment has to be right for your goals. It has to be appropriate for where you are now in life. With target-date funds, the only factor is time, but each of us has a different measure of how much risk we are willing to take with our investments. This is when you should focus on why you are investing. Just because you are younger, doesn’t mean you need to be aggressive and you are older doesn’t mean you have to be conservative. Your investment allocation depends on your goals, risk tolerance and time horizon.
Target-date Funds in 529 College Savings Plans
Target-date funds or age-based investing is often seen in 529 College Savings Plans as well. This is an area where age is the largest factor because it is based on when a child will turn 18 and go to college. For some, this is the place to use the age-based investment options.
Goal Planning
When I see clients who have selected target-date funds for their at work retirement plans, I am glad that they are 1) saving for retirement and 2) took ownership of their retirement goals. However, I like to educate them about the choices in their plan because there might be a better option for them. I want to give you the tools to be empowered and make the best decisions about your retirement.
For some, target-date funds may make sense, but you should always consider what your goals are along with your risk tolerance. Make sure you understand the fees involved but know that you won’t get into too much trouble with a target-date fund in your workplace retirement plan.
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Disclosure:
Investments in target date to target retirement funds are subject to the risks of their underlying holdings. The year in the fund name refers to the approximate year (the target date) when an investor in the found would retire and leave the workforce. The fund will gradually shift its emphasis from more aggressive investments to more conservative investments based on its respective target date. The performance of an investment in a target date or target retirement fund is not guaranteed at any time, including on or after the target date, and investors may incur a loss. Target date and target retirement funds are based on an estimate retirement age of approximately 65. Investors who choose to retire earlier or later than the target date may wish to consider a fund with an asset allocation more appropriate to their time horizon and risk tolerance.
Please consider the investment objectives, risk, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the mutual fund, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.