Target-Date Funds: A Good Choice For Retirement Accounts?

By: Joseph Caputo | Chief Information Officer & Associate Portfolio Manager


Over the years, target-date mutual funds have made their way into many investors’ portfolios, particularly 401(k)s and other types of employer-sponsored retirement plans. Perhaps one reason for their popularity is that they seem like relatively easy investments to understand, as they target a clearly defined retirement date (e.g., T. Rowe Price Retirement Fund 2040). In fact, many employer-sponsored plans make these funds a default option if you fail to select a fund on your own.

Because of their apparent simplicity and low cost, target-date funds have become a common way for small investors to save for retirement. However, it is important to consider the pros and cons of target-date funds before relying on them as a part of
your retirement portfolio


As with most investments, target-date funds are neither all good nor all bad. Instead, there are important aspects to consider that might make them more or less suitable, depending on your investment style and long-term objectives. Some of the positive aspects of using target-date funds can include:

Low expenses. Some target-date funds carry relatively low expense ratios. The average target-date fund had a 0.78-percent expense ratio in 2014, according to a report by Morningstar, a well-known source of independent research on mutual funds.

 • Asset allocation. It can be difficult to know how to allocate fund assets on your own. Target-date funds take care of this by selecting an investment blend for the investor of, for example, U.S. and foreign stocks and bonds, as well as cash.

Auto-rebalancing. Components of a portfolio might perform differently over time. That is why it is important to rebalance a portfolio regularly. Target-date funds automatically adjust the blend of assets periodically so that swings in the markets don’t throw a participant’s allocation off course.

Automatic adjustment for changing risk profiles. The asset allocation of a target-date fund is adjusted to become more conservative over time in order to account for factors that affect an investor’s risk profile: a shorter time horizon, fewer chances to make contributions to savings, and greater sensitivity to capital market swings.

Little effort. Target-date funds largely run themselves. For those who want a “set-it-and-forget-it” approach and do not want to be bothered with the details of researching and tracking investments, this might be an acceptable platform.

Confidence. Some investors find it reassuring to have their assets held by investment management companies that are household names. Many target-date funds are managed by large, well-known firms such as T. Rowe Price, Fidelity Investments, and Vanguard.


For certain investors, the pros of target-date funds make them a reasonable choice for their portfolios. However, there is more to consider when evaluating whether target-date funds are the best investment for your retirement assets.

Some of the negative aspects of holding target-date funds include:

Lack of transparency. Investors are not privy to the underlying securities that are held in a target-date fund. They therefore lack control over where their money is being invested.

Layering of fees. Yes, many target-date funds have low expense ratios. But to get the complete picture, make sure you are looking at the total expense ratio, which includes the expenses for the underlying funds and any overlay for packaging the
underlying funds together. Many target-date funds include some actively managed funds, which can make their expense ratios high.

Not all investors are the same. Target-date funds assume that all investors at age 65 are in similar positions, which of course is not the case. Individuals who continue to work part-time in retirement or who have bond or cash holdings outside of their retirement accounts likely can tolerate more risk and should hold a higher percentage of stocks. On the other hand, individuals who have little savings and are likely to tap into their retirement funds early might want a higher concentration of bonds.

Based on past returns. Target-date funds take little account of the current market environment and the expected future returns of stocks compared to bonds. This would be acceptable if today’s environment and expected returns were similar to the averages in the past, but they are not.

Infrequent rebalancing. Many target-date funds only rebalance every few years at best. Without fairly frequent rebalancing, investors in these funds could find they were hurt by too much equity exposure at the top of the market and with too much fixed-income exposure as the market rebounded.

Allocation ranges might vary. Investors’ goals and situations are different, and their portfolios should reflect that. But target-date funds can be hit-or-miss. There are some that would have you in 70 percent equities the year before retirement, while others might have you hold only 30 percent.

Lack of flexibility. Target-date fund allocations are fixed by the fund managers at their corresponding custodians. The investor does not have any control over the underlying funds and cannot adjust the weights during the life of the investment.

Wrong date? Many investors choose a target-date fund without really forecasting the actual date they will start making withdrawals. Retiring in 15 years does not always mean that you will be withdrawing in 15 years. Your real date of withdrawal could be much later in life, such as when you turn age 70 ½, which is the IRS’s required minimum distribution date. Thus, you might need to choose a fund that has a blend that corresponds to commencing withdrawal in a later year.

It makes sense to consult a professional regarding your employer-sponsored retirement account and its available fund line-up before diving into any investment. Today, many investors are paying closer attention to what they are invested in and how those investments are being managed. Many investors want more control over the fund selection in their investment portfolio, to satisfy both their monetary and personal goals.
Please call BWFA if you wish to discuss how to allocate assets held in your employer-sponsored plan.