How to Keep Your Retirement on Target


Do you know what your target date fund is made of?

If you have a 401(k) with a target date investment strategy—a mutual fund whose asset mix becomes more conservative as investors near retirement—it may be time to question what’s under the hood. We've learned that Congress is doing just that - but more about that later.

401(k) participants need to know how much of their 401(k) money their employers’ target date funds are committing to stocks today, and how much will be exposed to stocks when they’re nearing retirement. Target date or “lifecycle” funds contain stock as well as bond investments, with a ratio that becomes less risky (and more focused on fixed income) as you age. They base their asset allocation around a specific date—usually your expected retirement—and then rebalance (by buying and selling holdings and shifting asset allocations) to create more conservative investments as that date approaches. Hence, they’re likely to have names like the “2020” fund or “2040” fund.

These funds may have similar target dates, but their holdings are often very dissimilar.

In fact, the huge variation in the amount of stock that goes into different fund companies’ target date recipes has experts wondering whether the names of the funds should change to reflect their level of risk. Among today’s 2020 funds for instance, equity allocations targeted at retirees range from 51% to 90%, according to a recent study by Financial Research Corporation, a Boston-based consultancy that works with asset managers and investment advisors. This disparity comes despite the fact that all of the funds target retirees of exactly the same age, says Lynette DeWitt, author of the FRC study.

DeWitt notes that Wells Fargo’s (Stock Quote: WFC) Advantage DJ Target 2020 Fund had the lowest equity allocation at 51%; Oppenheimer’s (Stock Quote: OPY) Transition 2020 Fund had the highest at 90%; and others fell somewhere in between, such as Fidelity Freedom 2020 at 69%.

Maybe, DeWitt suggests, the funds in question should have names like, “Wells Fargo Conservative 2020 or Oppenheimer Aggressive 2020, so you know what you’re getting.”

Given the difficulty of plowing through most mutual fund prospectuses, DeWitt says she favors overtures by Sen. Herb Kohl, chairman of the U.S. Senate Special Committee on Aging, that could lead to target date fund regulation. Last month Kohl reported that a committee investigation of 401(k) funds designed for those retiring in 2010 found “a wide variety of objectives, portfolio composition and risk within same-year target date funds.”

Kohl has urged U.S. Secretary of Labor Hilda Solis and U.S. Securities and Exchange Commission Chairwoman Mary Schapiro to begin a review of target date funds and begin work on regulations to protect plan participants. Though they have been designed and sold as funds that become less risk-sensitive as one becomes older, one 2010 target date fund lost 41% in 2008, Kohl told Schapiro.

While regulators review the latest developments, several providers have taken matters into their own hands.

DeWitt says that companies including DWS Investments, a member of Deutsche Bank Group (Stock Quote: DB) have already shifted to more conservative equity allocations for their target date funds, while American Funds shifted its own target allocations to allow for 20% in cash. MFS Investment Management is also in the process of adding new MFS funds to its target date funds to add more diversification..

How to Protect Your Money
Beyond trusting the companies themselves, how can you make sure you don’t get stuck with a fund you don’t want?

Attorney Pam Perdue, of counsel with Summers, Compton, Wells & Hamburg in St. Louis and author of Qualified Pension and Profit-Sharing Plans, offers the following recommendations:

1. Find out what the fund’s “glide path” (asset allocation strategy over time) is like and ask yourself whether it makes sense alongside other investments you might have outside the plan. For instance, if your target date fund is 50% equity and 10% of that is small-cap, it may not fit next to another small-cap investment.

2. Ask yourself whether this is a strategy you can get into and stay with until retirement. “Target date funds are structured to take you from point A to point Z,” says Perdue. If you get off at C, you may miss the anticipated returns and benefits of the fund.

3. If the fund is too equity-focused too soon, you needn’t abandon target date funds altogether. Someone retiring after 2030 might want to look at a fund designed around an earlier retirement date—a 2020 for instance—for a more conservative, yet still automatic, approach.


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