Credit: Shutterstock photoA rising percentage of workers are turning to target-date funds as a hassle-free way to save for retirement .
At the end of 2013, nearly $500 billion was in target funds. Vanguard says 61% of members in 401(k) plans it runs that offer target date funds use at least one.
That's up from 61% at the end of 2012.
With a target-date fund, the investor selects a year close to the time of expected retirement. If the investor is young, the fund is heavily into stocks, which carry greater risk, but also greater returns.
As the investor gets closer to retirement, the percentage of the fund in stocks falls and the portion of less volatile, supposedly safer, fixed-income securities increases.
Take Fidelity's Freedom Funds. Say an investor signs up for the 2035 fund. That means he expects to retire sometime around 21 years from now. The fund now invests 63% of assets in Fidelity stock funds, 27% in bond funds and 10% in short-term funds.
As retirement draws nearer, the fund follows a "glide path" that automatically rebalances away from stocks. Someone in a Fidelity 2015 fund now would be 40% in U.S. equities, 17% in international equities, 34% in bonds and 10% in cash equivalents. Someone in a 2000 fund, who has already retired, would have 17% and 7% in U.S. and international funds, respectively, 46% in bonds and 30% in cash.
Glide paths can differ from one fund family to another.
Rent-A-Pro
"You're hiring a manager to do the asset allocation for you and to change that allocation over time to match your risk tolerance," said Janet Yang, target-date specialist for Morningstar.
Each fund family varies somewhat in approach, especially in how much to put into equities.
As you shop for a fund, you should check the length of the glide path for each fund you're considering. Many continue to adjust that mix even after a fund reaches its target date.
Also, some use what Yang calls "tactical allocation" that allows managers to react to unexpected opportunities. T. Rowe Price bumped up its equity allocation in the aftermath of the 2008 financial crisis and benefited from it.
Target-date funds are not immune from the ravages of stock and bond market crashes. After the financial crisis, when target-date funds like other funds had trouble, Congress mandated more disclosure from fund families.
Yang also noted that fund families typically put their own funds into their target-date funds. But not every fund in a family is a good one. Some funds might be subpar performers. She said she has heard of some fund families seeding a new fund with target-fund money, a practice she considers unethical.
Morningstar has concluded that, at least in recent years, a fund family's choice regarding asset allocation might not make all that much difference.
The low-equity Wells Fargo Advantage DJ Target 2015 delivered similar returns to the equity-rich T. Rowe Price Retirement 2015 over a five-year period that included the 2008 stock market crash.
"When people think about target-date funds, some become obsessed with asset allocation," Yang said. "Their main concern should be how much money they are saving. If they're not saving enough, they won't have enough in retirement."
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.