In 2023, retirement savings reached unprecedented levels, with participants channeling their resources into retirement plans at rates that have not been seen in recent history. A significant portion of these contributions—64 percent—was funneled into target-date funds (TDFs). These funds have emerged as a popular choice for retirement investing, serving as a convenient, “set-it-and-forget-it” solution for individuals navigating their financial futures.
So, what exactly are target-date funds? At their core, TDFs are designed to simplify the investment process. Investors select a fund that aligns with their anticipated retirement year, and from there, a team of investment professionals manages the asset allocation. This includes deciding on the right mix of stocks, bonds, and other assets, as well as adjusting these allocations as the investor ages. Each year, TDFs gradually transition to a more conservative investment strategy, ideally positioning retirees to minimize risk as they approach their retirement years.
However, while TDFs present a straightforward path for many, they are not without their criticisms. A significant limitation is their one-size-fits-all approach, which primarily considers the investor’s age. Key personal factors, such as risk tolerance, existing savings, and pension benefits, often go unexamined. As Eric Figueroa, a financial adviser at Hesperian Wealth in Folsom, California, puts it, “It’s better than not investing at all or trying to do it yourself if it’s not your passion or your area of expertise.” For individuals who find investing daunting or overwhelming, TDFs provide a viable alternative.
Despite their simplicity, there’s a surprising amount of complexity underlying these funds. For instance, the average expense ratio for U.S. target-date mutual funds is a relatively low 0.68 percent, especially when compared to U.S. stock funds, which average 1.04 percent, and taxable bond mutual funds, which sit at 0.83 percent. This cost-effectiveness is one reason why TDFs are enticing for retirement savers, especially those who may be hesitant to navigate the investment landscape alone.
Looking ahead, the landscape of target-date funds is evolving. Innovations are on the horizon, with two new varieties of TDFs expected to make their way into 401(k) plans soon. One of these is the personalized target-date fund, which aims to tailor the investment glide path to individual circumstances. This personalized approach considers a range of factors, including age, salary, account balance, savings rate, and employer contributions. Companies like Capital Group and Pimco are already offering these bespoke TDFs, with T. Rowe Price set to join the ranks later this fall.
This shift toward customization is particularly appealing to larger firms offering pensions, as they seek to meet the specific needs of their employees rather than relying on broad assumptions about retirement readiness. As Wyatt Lee, head of target-date strategies at T. Rowe Price, notes, “They want a glide path that’s tailored to their employees’ situation.”
Additionally, another innovative type of TDF is emerging to address a critical concern for retirees: sustainable income. These funds incorporate annuities into their asset mix, providing a guaranteed income stream during retirement. The introduction of such options reflects a growing recognition of the importance of income stability in the later stages of life. According to Morningstar, ten fund firms have already launched target-date funds featuring this guaranteed income option.
As the retirement savings landscape continues to evolve, it is crucial for individuals to stay informed about these developments. Target-date funds can offer a solid foundation for retirement investing, particularly for those looking for a hands-off approach. However, it’s equally important to remain aware of the personalized options and innovative strategies that are becoming available. Making informed choices can significantly impact long-term financial well-being, and with the right tools and knowledge, individuals can navigate their retirement journeys with confidence.
