There is no question that Target Date Funds have become popular options in Group Retirement Plans because they really make investment decisions simple which is important when there is little professional guidance from an advisor.
What are target date funds?
Target date funds are supposed to be the simple maintenance free investment solution. All you have to do is pick a target date that is theoretically close to your retirement and everything else is done for you:
- The asset allocation is done for you
- Rebalancing the allocation is done you
- Shifting the asset allocation according to time horizon is done for you as well
Who are they for?
One of the biggest problems in the Workplace Savings Programs like Group RRSPs and Pensions is the lack of involvement from plan members. Many studies have shown that although Workplace programs help facilitate retirement savings, there is low awareness, lack of knowledge and a lot of apathy.
Jason is 42 years old and has saved very little in RRSPs because most of his income to this point has gone to servicing debt and raising children. He has just accepted a new managment position with a company that is offering a group RRSP program. The employer is helping him to achive his desired savings rate of 12% by matching contributions up to 5%. In essence, Jason is investing 7% and his employer is contributing 5%.
Like many of his fellow employees, Jason has no experience investing so is looking for a simple solution. One of the options in the plan is the target date funds so Jason chooses the fund that has a target date closest to his retirement date which is 18 years away. Jason chooses the 2030 fund which is now 19 years away.
Here’s how the 2030 fund works. The current asset allocation of the fund is 65% equities and 35% fixed income. As Jason gets closer to retirement, the 2030 fund will automatically adjust that allocation to be more conservative. For example in 10 years, the allocation may be only 50% equities and 50% fixed income.
Most Target Date Funds also have a rebalancing mechanism. This rebalancing mechanism will bring back the mix to this changing allocation when market movements take the fund off course. For example, if the target mix is 65% equities and 35% fixed income and the markets take off and now the equities represent 68% of the portfolio, the rebalancing mechanism will take some profits and bring the equity exposure back to 65%.
Not all Target Date Funds are created equal
Despite the merits of these Target Date funds, investors should be careful about employing a completely passive investment approach. No matter how easy or simple Target Date Funds make investing, it’s critical that investors do not completely ignore their portfolios. I love the quote from Suze Orman, “Once you take care of your money, it will in turn take care of you.”
Even Target Date Funds should be monitored and reviewed from time to time. Make sure you look at your statements to see how the fund is doing. Make sure you check the allocation from time to time especially the closer you get to retirement. Make sure you know the fees of the fund. Some Target Date funds are really expensive compared to others. An lastly, make sure you understand the unique details of every plan. It’s a competitive world out there and different companies are offering different competitive features to try to carve their own competitive niche. Just remember that Target Date Fund make investing easier but it you should not ignore them completely.
The irony of this message it the more you look at your investments and take care of them the less you may need the low maintenance of a target date fund.