Some folks love to fuss over their retirement nest eggs. They follow the stock market like hawks, scope out hot sectors, tweak their holdings, and check their balances before hitting the pillow every night. But many Americans just don’t have the time, confidence, or, let’s face it, the interest to tend to their portfolio on a regular basis–even if their retirement depends on it.
Increasingly, though, they are using target date retirement funds as a hands-off way to get on track for retirement. Investors select a fund designed for a year near their anticipated retirement year: A 30-year-old who plans to retire in around 35 years, for instance, might choose the Vanguard Target Retirement 2040 Fund (VFORX), or Fidelity Freedom 2040 (FFFFX).
Managers of such funds allocate investment dollars across several other mutual funds in a mix that starts out aggressive and gradually grows safer as the target year approaches. “The idea is that it’s one-stop shopping,” explains Tom Roseen, senior research analyst at fund researcher Lipper. “You can buy in, and it’s a no-brainer after that.”Target date retirement funds’ set-it-and-forget-it appeal has attracted $150.1 billion in assets according to Financial Research Corp., a research consultancy in Boston. But as easy and effective as the funds sound, experts warn that no investment is completely work-free or worry-free.
One of the biggest caveats is that no matter how well the funds perform, they won’t ensure a comfortable retirement unless they are properly funded. In March,
JPMorgan Asset Management released a study indicating that the standard assumptions that the fund industry uses aren’t accurate: In reality, participants contribute less to their accounts and borrow and withdraw more than assumed.“We can’t control how much people are going to save or what they are going to spend in retirement,” says Jerome Clark, portfolio manager of T. Rowe Price’s target-date retirement funds, which have $24 billion in assets. “But there is nothing more important than how much you save in determining how successful your retirement is.”
It’s up to future retirees to figure out the level of contributions they need to make to retire comfortably. One way to do that is by consulting with a financial planner. Another is by using
retirement income calculators. A standard feature on fund companies’ Websites, they can quickly project the savings rate necessary to produce a desired income level in retirement, all while making the necessary adjustments for inflation.And while target date funds may overcome a lot of investors’ inertia, there’s still the job of choosing among the myriad of funds on the market. “One of the misconceptions is that they are all created equal,” says Roseen.
An easy way to comparison shop is through the Websites of Morningstar or Lipper, which rate mutual funds. To dig a bit deeper, investors can use the same sites to examine the funds in which the target date funds invest.
Price is another consideration. Target date funds charging an expense ratio
of more than about 1.2%–which is the median figure for mutual funds–should be approached skeptically, says Roseen. Target date funds make the most sense within 401(k)s and similar tax-advantaged retirement plans, because they must periodically sell holdings to meet their goals, which can trigger frequent capital gains taxes.But there is a caveat: As appropriate as the funds are for many hands-off investors, they may frustrate those seeking more latitude to manage taxes or take advantage of market conditions, says Richard Turnley III, a chartered retirement planning counselor and president of Atlanta Wealth Advisors Inc. “They’re a little bit too passive,” he says. “After all, the five years before you retire could be the best period in 50 years for equity markets.”