Target Date Funds…What I Call A Target Rich Environment

The Pension Protection Act of 2006 approved the use of Target Date funds as a default option for retirement plan sponsors and since that time, we have seen an explosion of popularity in its offering (Target Date Funds are projected to account for 50% of retirement plan assets by 2020).  The default option means that if you are a participant that does not choose a fund you are automatically enrolled in a Target Date Fund.  Target Date funds are funds that follow a glide-path towards a participant’s theoretical retirement age.  For instance, if your estimated retirement date is 2040, the fund will shift its assets from stocks to bonds over time to replicate a strategy whereby an investor would become more conservative as he or she approaches retirement age.  Sounds pretty good so far doesn’t it?

What many investors do not know is that not all target date funds are alike.  You might have a target date fund 2015 that would lead you to believe, because you are planning on retiring in only a few years, that the 2015 fund would be very conservative…not necessarily so.  

The chart below shows five different target-date funds, all with different asset allocation shifts over time.


When faced with an option, whether it is the default or your choice, do your homework.  An Employee Benefit Research Institute analysis of the 2010 Survey of Consumer Finances shows that for families with a retirement savings account, almost two-thirds of the families total financial assets are in these accounts.   Although Target Date Funds can be a great option to “set it and forget it” the investment choices you make for retirement planning are to important to be overlooked.


Here are a few ways to help unlock the complexity of target date funds:

  1. Risk Tolerance Evaluation:  Although risk tolerance questionnaires can be helpful, keep in mind that often times your risk tolerance is a measurement of how much pain you can bear.  A greater focus should be on your risk capacity combined with the probability of hitting your retirement goals.  Check out the video below from Morningstar that speaks to the concept of risk capacity and risk tolerance combined with financial planning goal setting. 
  2. Fund Manager Evaluation: Once you have a clearer understanding of your own retirement goals you can begin to properly evaluate managers to align your goals with the proper style of manager.  Although there isn’t one best methodology to evaluate target date funds there are ways to help you evaluate the best funds for your situation. I have provided you two links to help you evaluate risk, return, fees, style, manager tenure, style drift, equity/bond exposure, amongst many other measures to help you evaluate the best fit for your situation:  FundGrades & Morningstar (See Morningstar’s methodology by clicking the word “link“)
  3. Target Dates & “To vs. Through”:  As you noticed from my chart earlier, just because you see a target date of 2040 doesn’t mean that all target date funds are constructed the same.  Not only do asset allocations differ from one fund to the next but they also differ in managing that allocation “to or through” the specific target date such as the year 2040.   Some funds reach their most conservative point at the target date versus other funds reaching their most conservative point well through that target year.  


By giving consideration to the many facets of target date funds, you can hopefully narrow your set of funds to evaluate further and be better equipped to select a fund appropriate to your situation.  

My hope is that by properly evaluating your own goals you can make better decisions, beyond choosing the “right” target fund or mutual fund, and avoid some of the investment behavior problems many investors face when acting on emotion rather than a plan.  By setting your own goals and focusing on your unique needs, you allow yourself to put the blinders to tune out all of the water cooler, CNBC, and in-laws noise that distracts you from your own set of needs. 

 Check out an interview with Carl Richards that speaks to Fear, Greed, and investor behavior mistakes and how to avoid them:

The information in this article is not intended to be tax and/or legal advice and should not be treated as such. You should consult with your tax advisor and/or attorney to discuss your personal situation before making any decisions.