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 But it's important to read the fine print on these funds, because
their allocations aren't all alike on the "target date" - the day
you retire. Some firms that manage target date funds (TDFs) adhere
to a "to" glidepath - meaning the funds reach their most
conservative allocation on the target date. But the industry's
biggest players use a "through" glidepath, meaning that the most
conservative position is reached well after retirement.
The difference is important. The "to" glidepath provides greater
protection against losses in a market downturn, but the "through"
glidepath boosts the odds of stretching your nest egg longer into
retirement. Understanding that difference will matter to a growing
number of retirement investors in the years ahead. The popularity of
TDFs is soaring, with $618 billion invested at the end of 2013,
according to the Investment Company Institute - up from $160 billion
in 2008.
Glidepath design is a topic of ongoing debate in the fund industry.
The latest flareup came when BlackRock, the giant asset management
firm and a key proponent of "to" glidepaths, published a paper
earlier this month making the case for its approach. The argument
rests on the notion that your "human capital" - that is, your
ability to earn income - is exhausted on your target date, so there
is no reason to be taking more market risk on that date than later
in retirement.
"The day that you retire is the riskiest day of your life," says
Chip Castille, head of BlackRock's U.S. retirement group. "You're no
longer earning, and it's the point when you still have the longest
investment horizon and your account balance is likely to be at its
highest point, which means any loss you have will be applied to a
greater asset base."
Note that this argument isn't about your allocation to stocks and
bonds, but how it changes over time. “We aren't saying what your
level of equities in retirement should be," Castille says. "If you
think stocks will give you high return at low risk, hold a lot of
them. But there's no reason to keep gliding past the date of your
retirement."
Advocates of "through" glidepaths focus on longevity risk - the
danger of exhausting resources in retirement. That's a looming issue
for a growing number of households, since fewer retirees will be
able to rely on guaranteed lifetime income from defined-benefit
pensions in the years ahead. The value of Social Security payments
also is projected to fall in the coming decades, the result of
reforms enacted in 1983.
Research by Morningstar underscores the importance of longevity
risk. "Given lower saving rates and the decline of defined-benefit
plans, a growing number of people can't really afford the more
conservative approach," says Janet Yang, senior mutual fund analyst
at Morningstar. "You can either guarantee you won't have enough and
go conservative, or you can have the possible upside of higher stock
allocations, which gives you a chance of having enough to last
through retirement."
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Morningstar's research found that "to" and "through" allocations
both can meet retirees' spending needs up to age 85. At that point,
results start to diverge. By age 95, 45 percent of investors in "to"
glidepaths will exhaust their savings; only 40 percent of investors
in the "through" glidepath will deplete their savings by that age.
Glidepath isn't a matter of choice for TDF investors in 401(k)
plans; the investing philosophy is determined by the plan provider
chosen by your employer. The industry is roughly divided in half on
this issue but tilts heavily toward "through" glidepaths measured by
assets under management. The three biggest TDF asset managers -
Fidelity Investments, Vanguard, and T. Rowe Price - all use
"through" glidepaths. Together, these three manage 75 percent of all
TDF assets, according to Morningstar.
But it's worth knowing how your plan has you gliding at retirement.
If you’re not comfortable with the path, you can always move out of
the TDF into other fund options. You can manage the allocation
yourself, or with the assistance of a financial adviser. "People
should be asking what the fund is designed to do," Castille says.
"Does it do what I need it to do or not? And if not, make an
adjustment."
(Follow us @ReutersMoney or at http://www.reuters.com/finance/personal-finance.
Editing by Douglas Royalty)
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