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Plan Well, Retire Well

Saving and investing your money
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Solutions for Investment Procrastination, Part 3

Target date retirement funds are the third tool that might help you get things done where investing is concerned. Like index mutual funds and automatic rebalancing that I wrote about previously, this is a tool that might simplify your investment decisions. If you've put off signing up for your employer retirement plan because you're uncomfortable choosing the investments, read on! A target date retirement fund may be the solution.

These funds go by various names, including target date fund, retirement date fund, and lifecycle fund. Mutual fund companies may or may not use those terms in the name of the fund, but the tip-off is that there will be a series of funds, each with a year in their name such as Target 2020, Target 2025, Target 2030, etc. The year signifies that the asset allocation of the fund (how conservative or aggressive its investments are) is intended to be appropriate for someone retiring around that year. These funds are intended to provide one-stop shopping for investors.

This relatively new breed of mutual fund not only takes care of rebalancing, they'll even choose your target asset allocation for you and adjust it to become more conservative as you age.

This type of mutual fund is offered by many different mutual fund companies. While they all follow the same general concept, there are significant differences. But you'll probably only see the offerings from one mutual fund company in your 401(k) or 403(b) plan. Although I said this was going to help get you past your investment procrastination, you should do a little fact-finding before you leap.

Target date retirement funds are "funds of funds," meaning that they invest in other mutual funds to achieve the desired asset allocation. The cost of owning the target date fund will be a little higher than the cost of the underlying mutual funds it uses, due to the added services. Those underlying funds could be index funds or actively managed ones. Using index funds usually – but not always – means that the target date fund will be relatively inexpensive. According to the Investment Company Institute, the average target date fund cost a little more than 1% in 2012. (Because more money is invested in the funds that have lower fees, the "asset weighted average" was just over half of one percent at 58 basis points.)

Take a look at the asset allocation for the fund closest to your anticipated retirement date. For example, if you plan to retire in 2023, you might look at the 2025 fund. Play with a couple of different asset allocation calculators to see what they suggest for your asset allocation. You can find these tools on the websites of many mutual funds, financial publishers, and employer websites. Compare your results to the asset allocation of the target date fund. If the target date fund is too aggressive for you, you could choose a fund aimed at people retiring at an earlier date, which would be more conservative.

The glide path of a target date fund is how the asset allocation changes as you approach and pass the target year. Some funds make no further adjustment after the retirement year; others continue to ratchet down the proportion invested in stocks. The US Securities and Exchange Commission (SEC) depicts two different glide paths in its Investor Alert.

US News and World Report has compiled ratings and reviews of many target date funds by other agencies. By clicking on the name of a particular fund, you can see what other rating companies have said about it, and how its fees and risk level compare to other target date funds for the same target year.

Target date retirement funds were designed to be a "one-stop shop" for investors. But if the ones you have access to aren't appealing due to cost or other concerns (including confusion), you can always fall back on the procrastination-busting tools from my previous blog posts – index mutual funds and automatic rebalancing.

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I attended a SERS retirement seminar recently and a financial planner reported that these types of funds contain about 33% junk funds - funds that don't much income or none at all. He recommended choosing your own producing funds. Places like TIAA-Cref has representatives that can build a self sustaining portfolio based on your age and risk tolerance. A reputable company should have a department to work with customers who aren't financial experts to build a successful portfolio.
by Ellen Corcoran on Wednesday 2/12/2014

Ellen,Thanks for sharing this. There's always more than one way to accomplish a financial objective. I'd be curious what the planner meant by "junk" funds. Certainly, each company that offers target date funds has a slightly different approach. But Vanguard's, for example, are comprised of their low-cost index funds. As you approach and enter retirement, the proportion invested in bond funds increases. Yes, many investors could get guidance from their retirement plan provider. But that would required periodic consultations and adjustments to your investment mix - exactly what the target date funds avoid. As we age, our mental ability to do those these may deteriorate.
by Karen Chan on Monday 2/24/2014