Target-date funds, all-in-one vehicles that adjust their allocations to become more conservative over time, have grown dramatically in popularity during the past decade, with target-date fund assets eclipsing $500 billion in 2013's first quarter.
Much of that growth has been stoked by the Pension Protection Act of 2006, which allowed 401(k) plan sponsors to use target-date funds as the default option in company retirement plans such as 401(k)s. Target-date funds' subsequent uptake as default options in these plans means it's likely that many target-date fund owners haven't actively chosen their funds but have instead been opted in by their employers.
But how do more sophisticated investors who are making active choices about their holdings feel about target-date vehicles? That's the question I sought to answer when I recently queried Morningstar.com Discuss Forum participants about their target-date usage.
Not surprisingly, many of the respondents said that they prefer to exert more control over their asset mixes and investment selections than target-date funds allow.
Yet other posters were more sanguine about these vehicles, saying that they had embraced a target-date vehicle for at least a portion of their portfolios. Respondents cited the all-in-one simplicity of these vehicles as a key benefit, noting that a set-it-and-forget-it strategy has a particular appeal for those entering retirement or for loved ones who don't have much interest in overseeing their own portfolios. Some posters also noted that on closer examination, their target-date holdings have been pretty competitive with--if not better than--their custom-crafted portfolio mixes.
To read the complete thread or share your own opinion on target-date vehicles, click here (http://news.morningstar.com/articlenet/article.aspx?id=612866).
'I Like to Tinker'
Among the investors who have avoided target-date funds because of control issues was Rossinator, who wrote, "I am very hands-on and so I have equity-index exchange-traded funds, bond mutual funds, and a group of individual stocks that I try to manage for long-term investments."
Skrutherford agreed. "I like to tinker, so target-date funds don't comprise a significant portion of my 401(k) or IRAs."
A frequent gripe among investors eschewing target-date vehicles was that these funds' asset-allocation mixes aren't good fits. Saji1986 wrote, "I used to have [a target-date fund] for my IRA several years ago, but I got rid of it because I just wasn't comfortable with the allocation percentages. I prefer more mid-/small-cap and international exposure and less bond exposure than what they were offering."
Saji wasn't alone. Indeed, several posters articulated concerns about the heavy bond weightings in the near-dated target-date funds, given the prospective headwinds for fixed income during the next decade.
Rossinator wrote, "The target date will work if it occurs at an 'average' point in time, but right now I think dates in the next 10 years may actually be increasing investor risk and locking in low income by shifting more heavily into bonds while the investors believe they are transitioning to a safer portfolio."
Dtconroe correctly pointed out that target-date funds don't give retired investors control over which asset class they tap for cash, which can be a drawback in bear markets. "If a retired person needed the principal from those assets, due to unforeseen circumstances in major corrections or recessions, then such funds could cause you to take withdrawals that could cause permanent harm to your retirement holdings." (I explored that issue in this article (http://news.morningstar.com/articlenet/article.aspx?id=373330).)
Several posters noted that they prefer static-allocation offerings--either so-called target-risk funds or plain-old balanced funds--because they simplify while allowing the investor to choose a suitable asset mix.
W004dal wrote, "In my IRAs, I heavily prefer the Vanguard LifeStrategy series to any target-date fund. It gives me much more control over the risk profile."
Edmund_Dantes pointed out that nearly all target-date series use the house brand of funds, and few, if any, firms are equally adept at every asset class. "No fund company has a monopoly on good funds," this poster wrote. "Yet every target-date fund series I see offered (for example, Fidelity, T. Rowe Price Group (TROW), Vanguard) only populates those funds with 'in-house' funds. I would expect that if the boards of directors for these target-date funds were doing their job, they would attempt to populate those target-date funds with objectively superior fund holdings, from any fund company. Since that is not done, it strikes me that target-date funds are less about helping investors, and really only about asset gathering."
'You Could Do a Lot Worse'
Yet other respondents were more positive on the category. Evolence, a self-described "active and engaged investor," has employed target-date funds as core holdings while taking a more hands-on approach to the other half of his portfolio. "For me (and my spouse), I view the target-date holdings as a way to gain cheap, rebalancing exposure to a broad range of domestic equity, international equity, and fixed income."
Evolence views his target-date investments as simpler alternatives to managing positions in individual index funds. "Given that most of our exposure is in Vanguard, I am essentially buying a mutual fund that has broad index exposure to equity and fixed income. I view this as a bet on the efficient market hypothesis. I could achieve the same thing by buying three broad index funds/ETFs, but that would complicate dollar-cost averaging into each fund per paycheck--plus there would be no rebalancing."
Bigdaddy concurred that keeping a core of one's portfolio in a sturdy target-date vehicle can keep one from going too far astray. "Target-date funds are a panacea for the disengaged," this poster wrote. "They might also work way better than active management of your portfolio (you will get a B in investment, as Bogleheads would say, assuming you buy a low-cost target-date plan). That seems to be a decent argument that they should compose at least 50% of your retirement plan. And using them for 100%, well, you could do a lot worse."
MPodracky points out that an investor needn't stick with the target-date fund prescribed for his or her age band. "I have been retired for two years, but still use the Vanguard 2030 target-date fund. As we know, Vanguard uses a more conservative asset-allocation mix between stocks/bonds than other target funds so the later date doesn't concern me."
Among respondents who say they own target-date vehicles, the ability to be hands-off was cited as a key attraction.
Steveb1 said, "My own studies and advice on this forum show that the returns of target-date fund are as good as or better than owning individual funds (simplicity)."
Thomas0594 is also a believer. "I use T. Rowe Price target-date funds for our 401(k) accounts and Vanguard target-date funds for our Roth IRAs. Our aggregate balance has grown to low seven figures in our mid 50s without all the drama so often associated with investing."
Chief K is mulling employing a target-date fund during retirement rather than a more complex portfolio of multiple annuities. "I had hoped to gradually become more conservative during the first ten years of retirement by gradually 'laddering' about half of my portfolio into two or three immediate annuities, but current payouts are so low that they are simply not attractive. A target-date fund may be an better alternative."
Several posters also said they're attracted to the one-stop simplicity of a target-date vehicle because their hands-off spouses wouldn't have to do any heavy lifting.
Evolence wrote, "My wife is very much a disengaged investor, so part of the attraction in the target-date space is the ability to keep a substantial slug of assets in a set-it-and-forget-it type of vehicle, so that if I pass, my wife won't have to worry so much about portfolio tinkering."
Saji1986 is on the same page. "If something happens to me I wanted to keep it simple for [my wife's] sake, as she doesn't share my enthusiasm for all topics financial!"
Agenbite dipped a toe into 401(k) waters with his wife's retirement account and, based on those results, may keep moving in that direction. "It is quite telling that my spouse's account has far outperformed my ever-evolving personal tinker approach. Her account (according to Fidelity) has a compound annual growth rate of 9.6% over the last 10 years. I plan to allocate more funds to that hands-off style over the coming years."
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