Are target date funds truly on target?
- Alan Lavine and Gail Liberman
We often tout the idea of target date mutual funds as, perhaps, the simplest way to invest.
With a target date fund, you decide when you need your money, and invest in the target date mutual fund set to mature at that time. The mutual fund does the rest of the investing for you. What can be any easier?
Expect more retirement plans to encourage target date funds as employers make 401 (k) enrollment automatic for employees--unless employees choose to opt out.
But the New York publication, "Investment News," recently outlined potential drawbacks to target date funds. They definitely are worth considering.
Here they are:Frequently, target date funds rely too much on stocks and fail to invest in other important assets like real estate, emerging markets and high-yield bonds. It can prove a good idea to hold a wide variety of assets. This way, if one or two do poorly, the others may offset your losses. It's too easy to use target date funds incorrectly. Many 401 (k) participants invest in target date funds along with other mutual funds. Problem: Target date funds are designed to be used instead of other mutual funds. Say your target date fund invests in a growth fund and you also own a growth fund separately. A market downturn could send all your investments into a tailspin.Target date funds typically invest conservatively when an employee reaches retirement age. Reason: Most people don't want to take any risks with the money as they near retirement and will soon need it. However, this strategy also may hurt. Reason: Lifespans are increasing, and investors may need more long-term growth in riskier stocks if they ever expect their money to last so long.There are no benchmarks by which to track performance of target date funds. By contrast, invest in a plain stock fund, and you can compare its performance against published indexes, like the S&P 500.
So should you consider target date funds?
Rxamine target date funds very carefully. Compare fees and returns over time. Understand exactly what they invest in. The more they have in stocks, the riskier they're apt to be, but on the other hand, the greater potential they may have for long-term growth.
See how they compare with mutual funds and other investments you already own--both inside and outside retirement accounts. If you already own the same stocks or bonds in any other mutual funds, you might wish to shun the target date fund. Or, you might wish to invest in a target date fund and sell similar investments you already own. Anytime you sell an investment, consider tax repercussions.
Does your target date fund exclude real estate, gold, and high-yield bonds? If so, consider investing in the target date fund, but adding small investments in mutual funds that hold these other types of assets.
Spouses Gail Liberman and Alan Lavine are syndicated columnists. You can purchase Alan Lavine & Gail Liberman's latest book Quick Steps to Financial Stability (QUE Publishing 2006) online at www.moneycouple.com or at your local bookstore. E-mail them at MWliblav@aol.com.
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