The idea behind target date mutual funds is that the funds get safer by adjusting their allocation as the investor grows older and nears retirement. A young investor just out of college might buy the Fidelity Freedom 2050 (FFFHX), which has 90% of its holdings in Fidelity stock funds and just 10% in Fidelity bond funds. In ten years the same fund would be 85% allocated to stock funds and 15% to bond funds. If an investor sticks with the fund for the long haul, when they reach the fund's target date their investment allocation would become more balanced with 50% in stocks and 50% in bonds. After 2050 the fund gets even more conservative, ultimately hitting 20% in domestic stock funds and 80% in bond funds - and half of that 80% in short term bonds - about ten to fifteen years after the target date. Eventually the fund merges into Fidelity Freedom Income (FFFAX).
David McPherson, a financial planner writing for ABC News' website, posts a solid overview of target date mutual funds. His bottom line, and ours: Target date funds can (being fund of funds) be a little pricey to own, but are a good option for many investors:
When might a target-date fund be right for you?
First, when you are gripped with uncertainty. The truth is many retirement savers are overwhelmed by choice and can't make up their minds. Quite often, I see clients who when forced to make a decision seize up and put their money in a safe money market or bank CD. This tends to happen when somebody must roll over funds from an employer-sponsored plan into an IRA.
The problem is that due to inertia this money is likely to sit too long in that low-yielding account and not earn the returns it should over the long haul.
Second, if you are in your 20s or 30s, a low-cost target date fund could be the perfect solution. At those ages, an individualized portfolio is not critical and maybe even unnecessary. Rather the most important factors are that you are putting aside money, it is invested for the long term and it is diversified among different types of investments.
It is when investors grow older -- in their 40s, 50s and 60s -- that a customized portfolio constructed with the help of a qualified adviser is most needed. At those ages, you're losing out on the benefits of time that younger investors enjoy and most need an investment mix suited to your individual circumstances.
Third, if your access to professional financial advice is limited, a target-date fund may be the right choice. The truth is that most paid financial help is out of reach for low-income workers and even many middle income workers.
Let me say that I do believe many do-it-yourself investors are quite capable of constructing and managing their portfolios. With a little interest and a little reading, most folks can learn the basics of sound investing. The fact is, however, that many workers will never learn enough about investing to do it themselves.
In such cases, I say give them a target-date fund."
We'd add another benefit of target date funds (and other funds setting fixed bond and stock percentage allocations): these funds rebalance aggressively and end up buying low and selling high by selling stocks after big moves up and buying after big drops. Investors typically do the opposite and underperform the market over time.
Should You Target Target Funds?
The idea behind target date mutual funds is that the funds get safer by adjusting their allocation as the investor grows older and nears retirement. A young investor just out of college might buy the Fidelity Freedom 2050 (FFFHX), which has 90% of its holdings in Fidelity stock funds and just 10% in Fidelity bond funds. In ten years the same fund would be 85% allocated to stock funds and 15% to bond funds. If an investor sticks with the fund for the long haul, when they reach the fund's target date their investment allocation would become more balanced with 50% in stocks and 50% in bonds. After 2050 the fund gets even more conservative, ultimately hitting 20% in domestic stock funds and 80% in bond funds - and half of that 80% in short term bonds - about ten to fifteen years after the target date. Eventually the fund merges into Fidelity Freedom Income (FFFAX).
David McPherson, a financial planner writing for ABC News' website, posts a solid overview of target date mutual funds. His bottom line, and ours: Target date funds can (being fund of funds) be a little pricey to own, but are a good option for many investors:
When might a target-date fund be right for you?
First, when you are gripped with uncertainty. The truth is many retirement savers are overwhelmed by choice and can't make up their minds. Quite often, I see clients who when forced to make a decision seize up and put their money in a safe money market or bank CD. This tends to happen when somebody must roll over funds from an employer-sponsored plan into an IRA.
The problem is that due to inertia this money is likely to sit too long in that low-yielding account and not earn the returns it should over the long haul.
Second, if you are in your 20s or 30s, a low-cost target date fund could be the perfect solution. At those ages, an individualized portfolio is not critical and maybe even unnecessary. Rather the most important factors are that you are putting aside money, it is invested for the long term and it is diversified among different types of investments.
It is when investors grow older -- in their 40s, 50s and 60s -- that a customized portfolio constructed with the help of a qualified adviser is most needed. At those ages, you're losing out on the benefits of time that younger investors enjoy and most need an investment mix suited to your individual circumstances.
Third, if your access to professional financial advice is limited, a target-date fund may be the right choice. The truth is that most paid financial help is out of reach for low-income workers and even many middle income workers.
Let me say that I do believe many do-it-yourself investors are quite capable of constructing and managing their portfolios. With a little interest and a little reading, most folks can learn the basics of sound investing. The fact is, however, that many workers will never learn enough about investing to do it themselves.
In such cases, I say give them a target-date fund."
We'd add another benefit of target date funds (and other funds setting fixed bond and stock percentage allocations): these funds rebalance aggressively and end up buying low and selling high by selling stocks after big moves up and buying after big drops. Investors typically do the opposite and underperform the market over time.
Funds mentioned in the article:
Fidelity Freedom Funds
Vanguard Target Retirement Funds
See also:
Ask MAX: What does MAX think of the Vanguard Target Retirement Fund?