Making Sense of Lifecycle Funds

Every year, there are more and more mutual funds to choose from. One of the newest trends in the industry is the development of lifecycle funds. 2005 marked the launch of these new products that has quietly gathered significant assets for the fund companies behind them.

What are lifecycle funds?

Life-cycle funds, sometimes referred to as target-date funds, are just a re-invention, repackaging and evolution of the traditional balanced fund. Not unlike balanced funds, Lifecycle funds invest in stocks, bonds and cash and cover a wide range of different asset classes. Balanced funds helped investors to rebalance portfolios according to the market environment. Lifecycle funds do the same but they take it one extra step to accommodation changes to the asset mix as you grow older and get closer to retirement.

As you edge closer to retirement, the fund will automatically invest a greater percentage of your funds into more conservative investments. As a practical matter, this means that more of your money will go into bonds and less into stocks. You won’t have to think about it; it will be done for you. With target-date funds, your one big decision is to determine how long it will be before you need the money. The target date could be anywhere from five years to thirty years or even longer.

Originally, balanced funds allowed investors to hold a variety of asset classes in a one-fund solution. The next generation of balanced funds allowed investors to invest with different managers and management styles through fund of fund solutions and portfolio solutions. Today, the newest generation of balanced fund accommodated that asset allocations need to be changed because of time and age.

What lifecycle funds are available?

There are no long-term track records for life cycle funds as they are new in the Canadian fund universe. The Clarington Target Click series is the pioneer, and it dates back only to February 2005. They have a unique lock-in feature that guaranteed the capital you put in along with the growth in the portfolio. Scotia Vision series was launched in June 2005. More recently, Fidelity has launched its version of lifecycle funds with their Clearpath funds. Ethical Funds and CIBC are also in the game. Each company has their subtle twists to the lifecycle product. There’s certain to be more to come.

For investors who like the target-date concept and don’t need individual customization, the question then becomes: Which one? Right now, there’s not much to go on in terms of performance comparisons. It’s very early in the game, so much so that not even three-year returns will be available until the first half of 2008.

Key issues of lifecycle fund

  • Too general. Basic premise is all investors that are a certain age or demographic are the same. I believe every investor has unique circumstances and situations that require unique solutions, not a blanket one-fund solution. The one-size-fits-all approach to retirement investing comes with problems. If you have taken risk tolerance questionnaires, you will see that investors have different portfolio needs. Nobody universally agrees on the proper allocation. Does it make sense for a millionaire who likes to take risks, to have the same allocation as a conservative employee with a pension just because they plan on retiring in the same year?
  • Small accounts. It can be difficult to be too sophisticated with smaller amounts of money. Life cycle funds might be appropriate for the entry-level investor who is building a portfolio.
  • Different forms. Lifecycle funds come in different shapes, colors and sizes. It is important to dig deeper to see if these funds are right for you and more importantly which funds are right for you. Do you homework before you buy one of these funds.
  • Core holdings. Some people will argue that Life cycle funds could be used as a core holding in a portfolio of funds. Instead of using a traditional balanced fund as a core holding, the new version, a life cycle fund might be used in a portfolio.
  • One Fund solution. Often these funds are sold as a one-fund solution. They may be ideal for investors who do not track portfolios often. Maybe they lack interest or passion for their portfolio. These funds are really designed for the person looking for a low maintenance portfolio.
  • Costs. The average MER for Canadian Balanced funds is 2.59%. If you take a look at the MERs of life cycle funds, they predominately have lower MERs than the average. Clarington’s Target Click funds tend to have a little higher MER but they also provide a ressettable guarantee to the investor, which will certainly appeal to those who are more conservative.

My two cents

Although these lifestyle funds are increasing in popularity, I do not consider them revolutionary. At the end of the day, I think they should be considered a new type of balanced fund.

Life cycle funds are ideal for those who aren’t willing to spend the time making the appropriate adjustments to their portfolio over time. Lifecycle funds might suit them well.

At the end of the day, I have always preached good research leads to good decisions. Not all mutual funds are the same. There are good ones and bad ones. The same goes for life cycle funds. Although the choice is limited right now, make sure you understand the benefits and whether they have any appeal to you.

Written by Jim Yih

Jim Yih is a Fee Only Advisor, Best Selling Author, and Financial Speaker on wealth, retirement and personal finance. Currently, Jim specializes in putting Financial Education programs into the workplace.For more information you can follow him on Twitter @JimYih or visit his other websites JimYih.com and Clearpoint Benefit Solutions.

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