Do you know how your 401(k) plan at work is currently invested? Do you feel overwhelmed by the investment selections available to you? This post will provide you with the basics on Target Date Funds (also known as Lifestyle Funds). This type of fund can provide you with an easy way to manage your 401(k) plan.
A target date fund is a collection of stock funds, bond funds and cash equivalents that is adjusted over time to a more conservative asset allocation as you approach retirement (your target date). In a previous post, we talked about the historically higher returns and higher volatility with stocks, compared with bonds which have lower returns and more stable prices. So the premise of a target date fund is to adjust your allocations to a lower percentage in stocks and a higher percentage in bonds/cash as retirement nears. You might have heard of the term “glide path” – in aviation, it’s the slope of descent as a plane approaches the runway. As you can probably guess, the glide path of a target date fund is the rate (over years) at which the percentage of stocks in the fund is adjusted downward.
Target Date Funds – Up Close
This table shows the asset class allocations for Vanguard Target Date Funds. Let’s assume that you are planning on retirement at age 65 (when you are eligible for Medicare). If you are about 40 years old, you might be interested in the 2035 Target Date Fund (you will be 62 in 2035). The current asset allocation for this fund is aggressive, with most of your money (85%) invested in a mixture of domestic and international stocks, and 15% in bonds. Remember, this asset allocation will become more conservative over time, based on the fund’s glide path.
Pro’s, Con’s of Target Date Funds
The advantage of these types of funds is their simplicity for you, the investor.
However, this comes at the price of you not being able to adjust your portfolio in response to changes in economic conditions.
It is important for you to take your own personal situation into account. If you are the sole provider for your family and you do not have significant savings, you may want to invest your retirement funds more conservatively. If you are 40 years old, you could opt for a 2025 or 2015 target date fund to get a more suitable allocation.
Bottom line: Be informed of the asset allocations for each target date, and pick the one that suits your financial situation and goals.
About Laura Tanner, Ph.D, CFP®
Laura is a former research scientist, a Ph.D, a CERTIFIED FINANCIAL PLANNER™ with SAS Financial Advisors, LLC, in San Francisco CA, author of the Smart . . . but Clueless about Money? blog, and a featured contributor on the CIF blog.