Objective information about financial planning, investments, and retirement plans

Time for a Mid-Year Financial Review

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It’s hard to believe that the first half of the year has come and gone already.  We enjoyed having all three of our adult children home over the holiday weekend.

Financial Review

Mid-year is always a good time for a financial review and 2014 is no exception.  So far in 2014:

  • Various stock market indexes are at or near record high levels. The Bull Market in stocks celebrated its fifth anniversary earlier this year and through June 30 the S&P 500 Index is up 190% since the March 2009 lows.
  • Bond funds and ETFs have surprised us by posting some pretty decent returns.  This is contrary to what many expected, especially in the wake of weak performance in 2013.
  • After largely not participating in the in the strong equity markets of 2013 REITS have been a top performing asset class YTD through the second quarter.
  • Emerging markets equity lost money as an asset class in 2013 and has also staged a nice recovery YTD through the first half of 2014.
  • Small cap stocks have underperformed so far in 2014 after a very outstanding 2013. 

In just about any year at the midpoint there will be asset classes that outperformed and some that have underperformed expectations.  That’s completely normal.  As far as your mid-year financial review here are a few things to consider.  These apply whether you do this yourself or if you are working with a financial advisor.

Review your financial plan 

Whether you do this now or at some other point in the year you should review your financial plan at least annually.  Given the robust stock market gains of the past five years this is a particularity opportune time for this review.

  • How are you tracking towards your financial goals?
  • Have your investment gains put you further ahead than anticipated?
  • Is it time to rethink the level of investment risk in your portfolio? 

Adjust your 401(k) deferral

If you aren’t on track to defer the maximum amount of your salary allowed ($17,500 or $23,000 if you are 50 or over at any point in 2014) try to up the percentage of your salary being deferred to the extent that you can.  Every little bit helps when saving for retirement.

Rebalance your portfolio 

This should be a standard in your financial playbook.  Different types of investments will perform differently at different times which can cause your overall portfolio to be out of balance with your target.  Too much money allocated to stocks can, for example, cause you to assume more risk than you had anticipated.

While it is a good idea to review your asset allocation at regular intervals, you don’t want to overdo rebalancing either.  I generally suggest that 401(k) participants whose plan offers auto rebalancing set the frequency to every six months.  More frequent rebalancing might be appropriate if market conditions have caused your portfolio to be severely misallocated.

Note some investment strategies call for a more tactical approach which is fine.  If you are using such a tactical approach (perhaps via an ETF strategist) you will still want to monitor what this manager is doing and that their strategy fits your plan and tolerance for risk.

Review your individual investments 

Certainly you will not want to make decisions about any investment holdings based upon short-term results but here are a few things to take into account during your mid-year financial review:

  • If you hold individual stocks where are they in relation to your target sell price?
  • Have there been key personnel changes in the management of your actively managed mutual funds?
  • Are any of your mutual funds suffering from asset bloat due to solid performance or perhaps just the greed of the mutual fund company?
  • Are the expense ratios of your index mutual funds and ETFs among the lowest available to you?
  • Has your company retirement plan added or removed any investment options?
  • Is the Target Date Fund option in your 401(k) plan really the best place for your retirement contributions? 

Review your company benefits 

I know its July but your annual Open Enrollment for employee benefits at most employers is coming up in the fall.  This is the time where you can adjust your various benefits such as health insurance, dental, etc.  Take a look at your benefits usage and your family situation as part of your financial review to see if you might need to consider adjustments in the fall.

Review your career status 

How are things going in your current job?  Are you on a solid career path?  Is it time for a change either internally or with a new employer?

A key question to ask yourself is whether you feel in danger of losing your job.  Often companies will time their layoffs for the second half of the year.  Ask yourself if approached with a buyout offer to leave would you take it.

For most of us our job is our major source of income and the vehicle that allows us to save and invest to meet financial goals such as retirement and sending our kids to college.

Start a self-employed retirement plan 

If you are self-employed you need to think about starting a retirement plan for yourself.  The SEP-IRA and the Solo 401(k) are two of the most common self-employed retirement plans, but there are other alternatives as well.

You work too hard not to save for your retirement.  If you don’t have plan in place for yourself it is time to take action.

Mid-year is a great time for a financial review.  Take some time and take stock of your situation.  Failing to plan your financial future is a plan to fail financially.

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Six 401(k) Investing Mistakes to Avoid

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For many of us trying to save for retirement, our 401(k) plan is our main retirement savings vehicle.  Much has been written about the pros and cons of 401(k) plans, but the truth is that if utilized correctly the 401(k) is a powerful retirement savings tool.  Here are six 401(k) investing mistakes to avoid.

Not contributing enough 

Many plans will set a default salary deferral level for plan participants who don’t specify a salary deferral amount.  Often this is in the 1%-3% range.  While this is better than not contributing at all it is clearly not enough for most of us to build the retirement nest egg we will need.

A standard piece of advice is to be sure to defer a sufficient percentage of your salary to receive the maximum match from your employer.  While I concur with this advice, this doesn’t mean this amount is sufficient to accumulate the retirement nest egg you will need either.

Ignoring outside investments 

If you are early in your career your 401(k) might be your only investment account.  However if you are in mid-career or older you may have a number of accounts including your spouse’s retirement account, several old 401(k) accounts and IRA, or other investments in taxable accounts.  It is important that you view your current 401(k) as a part of your overall investment portfolio and not invest your 401(k) in a vacuum. 

Not investing appropriately for your situation 

This can take many forms.  I’ve seen numerous instances of younger investors in their 20s putting all of their contributions into their plan’s money market or stable value options.  Clearly these participants are not taking advantage of their long time frame until retirement.  It is doubtful that the returns on these investments will allow them to accumulate enough for retirement.

On the other side of the coin there were many stories of plan participants in their 50s who were too heavily invested in equities and who suffered devastating losses in 2008-2009.

The bottom line is that 401(k) investors should invest in a fashion consistent with their financial stage in life, in line with their goals and risk tolerance, in short in a fashion that is consistent with their overall financial plan. 

Over investing in company stock 

No matter how wonderful your company’s stock is investing an excessive percentage of your 401(k) dollars in company stock is risky.  Your livelihood is derived from your job so if the company has problems conceivably you could find yourself unemployed and holding a major portion of your 401(k) in the devalued stock of your now former employer.

As with any investment, having an inordinate percentage of your portfolio in any one holding is risky.  While there is no hard and fast rule, many financial advisors suggest keeping company stock to 10% or less of your overall portfolio. 

Using Target Date Funds incorrectly 

Target Date Funds are the default investing option QDIA) in many 401(k) plans for participants who don’t make an election as to how their salary deferrals are to be invested.  They are also growing in popularity by leaps and bounds as a vehicle for those participants who are uncomfortable allocating their accounts from among the other investment options offered by their plan.

TDFs can be a reasonable alternative if used correctly.  Target Date Funds are designed to be “one stop shops” so to speak.  In other words these funds are designed to be a participant’s only investment in the plan.  The idea here is that the fund will allocate your money in accordance with their glide path to and through the target date.

401(k) investors who use a Target Date Fund in conjunction with several of the other investment options in the plan run the risk of being too heavily invested in one sector or another.  If this is the path that you are choosing make sure you understand the overall allocation of your account that will result and that this is in accordance with your best interests.

Additionally investors considering Target Date Funds need to understand how the funds in the family invest and to understand that the fund with the target date nearest their anticipated retirement age may or may not be the best choice for them. 

Ignoring your 401(k) account when leaving your job 

By the time you are in your 40s you will likely have worked for several employers.  It is critical that when you leave a job that you don’t ignore your 401(k) balance.  It may make sense to leave your money in your old employer’s plan if the plan offers a menu of low cost, solid investment options.  Likewise it might make sense to roll your balance to your new employer’s plan if allowed assuming they offer a solid, low cost investment menu.  The other option to consider is rolling your account to an IRA.  This route will often allow a greater number of investment alternatives and can be a good way to consolidate this money with an existing IRA or to consolidate all of those retirement accounts you might have.

If you are retiring dealing with your old 401(k) is critical as well.  You will want to position your money in line with your needs including continued growth and any withdrawals you will be making from these funds.  If you have company stock as part of your plan don’t neglect to consider the NUA option as well.

Your 401(k) plan can be a great tool in winning the retirement gamble.  Like any investment you need to manage it to your best advantage.

Please check out our Book Store for books on financial planning, retirement, and related topics as well as any Amazon shopping needs you may have (or just click on the link below).  The Chicago Financial Planner is a participant in the Amazon Services LLC Associates Program, an affiliate advertising program designed to provide a means for sites to earn advertising fees by advertising and linking to Amazon.com.  If you click on my Amazon.com links and buy anything, even something other than the product advertised, I earn a small fee, yet you don’t pay any extra.

  

Please contact me at 847-506-9827 for a complimentary 30-minute consultation to discuss all of your investing and financial planning questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services.

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Target Date Funds: Does the Glide Path Matter?

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Most Target Date Funds are funds of the mutual funds of the fund family offering the TDF.  The pitch is to invest in the fund with a target date closest to your projected retirement date and “… we’ll do the rest….”  A key element of Target Date Funds is their Glide Path into retirement.  Stated another way the Glide Path is the gradual decline in the allocation to equities into and during retirement.  Should the fund’s Glide Path matter to you as an investor?

Glide PathTarget Date Funds have become a big part of the 401(k) landscape with many plans offering TDFs as an option for participants who don’t want to make their own investment choices.  Target Date Funds have also grown in popularity since the Pension Protection Act of 2006 included TDFs as a safe harbor option for plan sponsors to use for participants who do not make an investment election for their salary deferrals and/or any company match.

These funds are big business for the likes of Vanguard, Fidelity, and T. Rowe Price who control somewhere around 70% of the assets in these funds.  Major fund families such as Blackrock, JP Morgan Funds, and the American Funds also offer a full menu of these funds.  Ideally for the fund company you will leave you money in a TDF with them when you retire or leave your employer, either in the plan or via a rollover to an IRA.

What is a Glide Path?

The allocation of the fund to equities will gradually decrease over time.  For example Vanguard’s 2060 Target Date Fund had an equity allocation of almost 88% at the end of 2013.  By contrast the 2015 fund had an equity allocation of approximately 52%.

This gradual decrease continues through retirement for many TDF families including the “Big 3” until the equity allocation levels out conceivably until the shareholder’s death.  T. Rowe Price has traditionally had one of the longest Glide Paths with equities not leveling out until the investor is past 80.  The Fidelity and Vanguard funds level out earlier, though past age 65.

There are some TDF families where the glide path levels out at retirement and there is some debate in the industry whether “To” or “Through” retirement is the better strategy for a fund’s Glide Path.

Should you care about the Glide Path? 

The fund families offering Target Date Funds put a lot of research into their Glide Paths and make it a selling point for the funds.  The slope of the Glide Path influences the asset allocation throughout the target date years of an investor’s retirement accumulation years.  The real issue is whether the post-retirement Glide Path is right for you as an investor.

On the one hand if you might be inclined to use your Target Date Fund as an investment vehicle into retirement, as the mutual fund companies hope, then this is a critical issue for you.

On the other hand if you would be inclined to roll your 401(k) account over to either an IRA or a new employer’s retirement plan upon leaving your company then the Glide Path really doesn’t make a whole lot of difference to you as an investor in my opinion.

In either case investing in a Target Date Fund whether you are a 401(k) participant saving for retirement or a retiree is the ultimate “one size fits all” investment.  In the case of the Glide Path this is completely true.  If you feel that the Glide Path of a given Target Date Fund is in synch with your investment needs and risk tolerance into retirement then it might be the way to go for you.

Conversely many people have a number of investment accounts and vehicles as they head into retirement.  Besides their 401(k) there might be a spouse’s 401(k), other retirement accounts including IRAs, taxable investments, annuities, an interest in a business, real estate, and others.

In short, Target Date Funds are a growing part of the 401(k) landscape and I’m guessing a profitable way for mutual fund companies to gather assets.  They also represent a potentially sound alternative for investors looking for a professionally managed investment vehicle.  The Glide Path is a key element in the efforts to keep these investors in the Target Date Fund potentially for life.  Before going this route make sure you understand how the TDF invests, the length and slope of the Glide Path, the fund’s underlying expenses, and overall how the fund’s investments fit with everything else you may doing to plan for and manage a comfortable retirement.

Please contact me at 847-506-9827 for a complimentary 30-minute consultation to discuss your 401(k) plan and all of your investing and financial planning questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services. 

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Five 401(k) Investing Tips for This or Any Market

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Benjamin GrahamThe Dow Jones Industrial Average has hit something like 30 new highs this year alone, the S&P 500 is near record levels as well.  Twitter just went public and Obama Care will go into full swing in 2014.  What does any of this mean to you as a 401(k) investor?  Here are five 401(k) investing tips for this or any market environment.

Rebalance your account 

If you’ve let your holdings run it’s quite likely that your account is over allocated to equities given the strong showing the stock market has made so far in 2013.  This would be a good time to look to rebalance your account back to the original allocations that you had intended.  Paring back on stock funds might seem counterintuitive, but essentially you are taking some of your gains off of the table in order to keep the risk associated with your overall portfolio in line.

Consolidate and coordinate 

If you are just starting out in the workforce, it’s likely that your 401(k) is your lone investment vehicle.  By the time you get to your 30s or 40s and beyond it’s likely that you’ve switched jobs several times and have left a number of old 401(k) accounts or IRAs in your wake.  If you are married and both working multiply this financial clutter by two.

Consider consolidating your old 401(k) accounts either in a rollover IRA or into your current employer’s 401(k).  Looking after a number of scattered accounts is counterproductive and makes viewing all of your investment holdings as a consolidated portfolio that much harder.

While we are on the subject, ALWAYS view your 401(k) account as a part of an overall consolidated portfolio.  I create a spreadsheet for each client to do just that, with all of the technology available today this is not difficult, but it may take just a bit of time to lay things out the first time you do it.

The reason for this approach is so that you view your overall asset allocation and the diversification of your portfolio across all investment and retirement accounts.  Are you taking too much risk or not enough?  Do you own the same fund in three accounts all in different share classes?

Increase your salary deferral

This is the time of year where many companies have their employees go through Open Enrollment for their employee benefits.  While you are thinking in terms of benefits this is a good time to boost your salary deferral to ensure that you are contributing the maximum to the plan.  If you can afford it and are not on track to max out for 2013 ($17,500 and $23,500 if you are 50 or over) arrange to have more withheld for the rest of this year and figure out what percentage to apply to your first check in 2014.  How you invest your 401(k) is important, but studies have shown that the amount you save for retirement is the biggest single factor in determining the size of your nest egg.

Don’t default to the Target Date Fund

One of the Target Date Funds offered by your plan might be the right choice for you.  This may be the fund with the target date closest to your anticipated retirement date or some other fund in the series.  It is important that you understand what is under the hood of the Target Date Funds and decide if this is the right approach for you.  Note these funds change from time-to-time as witnessed by some recently announced changes that Fidelity will be making in its Freedom Funds. 

Get the help you need 

Many plan sponsors are offering advice options ranging from online advice to one-on-one advice to managed accounts.  Check out these options and any fees associated with them.  If you work with a financial advisor make sure that they are providing you advice on how to allocate your 401(k) account along with the advice they provide on your other holdings.  Some 401(k) participants are savvy investors, others are not.  If you are in this latter camp, bite the bullet and hire the advice that you need.  This is important, it’s your retirement, and you only have one shot at it.

For better or worse the 401(k) and similar retirement plans are the main source of retirement savings for most of us.  Make the most of your plan regardless of what is going on in the markets or the economy.

Please contact me at 847-506-9827 for a complimentary 30-minute consultation to discuss your 401(k) plan and all of your investing and financial planning questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services.  

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4 Steps to Make Your 401(k) Work as Hard as You Do

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WI: Eau Claire Labor Day celebration, Septembe...

Labor Day is here once again.  A time for picnics and the start of the college football season.  It’s also a good time to step back and make sure that you are on track for retirement.  Whether you work as an employee or you are self-employed you work hard for your money.  In spite of what was said on PBS Frontline The Retirement Gamble and elsewhere in the press, in my opinion 401(k) plans are one of the best retirement savings vehicles available.  Here are 4 steps to make sure that your 401(k) plan is working hard for your retirement.

Get started 

This might seem basic, but you can’t benefit from your employer’s 401(k) plan unless you are participating.  If you haven’t started deferring a portion of your salary into the plan this is great time to start.  Look at your budget, determine how much you can afford to defer each pay period and get started.  You may be able to do everything online, otherwise contact the plan administrator at your company.

Are you self-employed?  There are a number of retirement plan options to consider including a Solo 401(k).  If you don’t have a retirement plan in place for yourself, do this today.  You work way too hard not to be putting something away for retirement.

Increase your contributions 

This is a great time to review the amount of your salary deferral and look to increase it if you are not already maxing out your contributions.  For 2013 the maximum contribution is $17,500 if you are under 50 and $23,000 if are 50 or over (and if you turn 50 before the end of the year).  For those 50 and over you can still make the full $5,500 catch-up contribution even if your contributions are otherwise limited to an amount below the maximum due to your plan failing its testing.  This situation can occur for highly compensated employees and usually occurs at smaller plans.

If you were enrolled into your employer’s plan under an automatic enrollment scenario the amount you are deferring is likely inadequate to meet your retirement needs, you need to revisit this and take affirmative action both in terms of the amount deferred and the investment options to which those salary deferrals are directed.

It’s often popular to urge 401(k) participants to contribute at least enough to receive the full amount of any company match.  I agree that it makes sense to go for the full match, but the key words here are at least.  The quality of each plan is different, but if your plan offers a solid investment menu and reasonable expenses I suggest that you consider increasing your contributions beyond the minimum required to receive the full company match.  Automatic salary deferrals are an easy, painless way to invest and simplicity in saving for your retirement should not be pooh-poohed.

Take charge of your investments, don’t just default 

Target Date Funds are offered by many 401(k) plans and are often the default option for those participants who do not make an investment election.  While TDFs may be fine for younger participants, I’m not a huge fan for those of you within say 15-20 years of retirement.  If you are in this situation I urge you to look at an allocation that is more tailored to your overall situation.  At the very least if you are going to use the Target Date Fund option offered by your plan take a hard look at how the fund will invest your money, how this fits with investments you may have outside of the plan, and the fund’s expenses.

Plan for your retirement 

While contributing to your 401(k) plan is a great step, it is just that, a step.  The retirement savings crisis facing many workers here in the U.S. has been well-documented.  Your 401(k) is an important tool in planning for retirement, but the keyword is planning.  Many 401(k) plan providers offer retirement planning tools on their websites.  They may also offer advice in some format.  Consider taking advantage.

If you work with a financial advisor make sure that they consider your 401(k) and all investments when helping you plan for your retirement.  I find it amazing every time that I hear of some brokerage firm that forbids its registered reps from providing clients advice on investing their 401(k) account because the plan is not offered by their firm.

Please contact me at 847-506-9827 for a free 30-minute consultation to discuss all of your 401(k) and financial planning questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services.   

Retirement plan sponsors, do you need an independent review of your company’s plan?  Do you need help selecting a new plan provider?  Are you looking for ongoing financial advice to help you meet your fiduciary obligations and to provide a superior retirement savings vehicle for your employees?  Would you like to offer your plan participants access to fee-only, unconflicted advice on how to manage their 401(k) accounts and plan for their retirement?  Please feel free to contact me to learn about our investment consulting services for retirement plan sponsors

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Led Zeppelin and Your 401(k)

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Led Zeppelin -- Led Zeppelin

Andrea Coombes recently wrote an excellent piece for Market Watch entitled “401(k) savers are confused and stressed.”   The title of Andrea’s article reminded me of the classic Led Zeppelin song Dazed and Confused.  Led Zeppelin is perhaps the greatest rock band of all-time.  Lead singer Robert Plant and guitarist Jimmy Page are true rock legends.  Dating myself a bit, I still have the original vinyl versions of Led Zeppelin II and Led Zeppelin III that I bought in my early teens.

Whether you prefer Andrea’s article title or the title of the Led Zeppelin song, the confusion felt by many 401(k) investors is real and is an impediment to retirement success.

Schwab Survey 

The Market Watch article cited several findings from a Charles Schwab survey of 1,004 people who invest in a 401(k):

But more than half of the 401(k) savers said their plan’s investment options are more confusing than their health-care benefits, and 57% said they wish it were easier to choose among their plan’s investing choices.

Forty-six percent of savers said they don’t know what their best investment options are, and 34% said deciding how to invest in their 401(k) is causing them a lot of stress. (The survey respondents ranged in age from 25 to 75, and worked at companies with 25 or more employees.)”

Too many choices 

A 401(k) plan sponsor for whom I serve as advisor had a menu of over 150 distinct choices when we first started working them.   We have worked with the sponsor and the plan provider to pare down  the menu to three tiers that include access to Target Date Funds; a menu of 16 core individual mutual funds; and access to a brokerage link for those participants who prefer a purely self-directed approach.

A 401(k) with too many choices always reminds me of my frustration with many of the excellent family restaurants here in the Chicago area.  The menus are complete to the point of being like a small encyclopedia and all the choices look great.  Add to that a desert display when you walk in and making a final selection is often difficult.

Target Date Funds 

I’ve long had a love-hate relationship with Target Date Funds.  On the one hand I love the idea of a professionally managed, instantly diversified portfolio.  For young 401(k) savers like my 25 year daughter I think this is a great option.  She gets instant diversification and a portfolio that is appropriately aggressive for her age.

For investors in their 30s and 40s and beyond I’m not as sold on Target Date Funds.   By this time I’d hope that you’ve accumulated some investment assets and are ready to take charge of your financial future.  To me this means that you have a financial plan in place that includes an investment strategy tailored to match your individual financial goals.

If you decide to go the Target Date Fund route make sure that you understand the underlying investments of the funds as well as the fund’s expense ratio.  Remember that you are not obligated to invest in the fund with the target date closest to your anticipated retirement date.  Lastly remember that Target Date Funds from different families with the same target date may be vastly different.  Do your homework before investing.

401(k) investing tips

In an earlier post on this blog, I listed 5 timeless tips for 401(k) investors:

  • Stick with it
  • Contribute as much as you can
  • View you 401(k) as part of your overall portfolio
  • Don’t ignore your 401(k)
  • Use Target Date Funds with caution

To these tips I’d add two others, keep it simple and get outside help if you need it.

Many plans offer low cost index fund choices.  For example a relatively simple, but diversified portfolio could be constructed from say a Total U.S Stock Index fund, a Total International Stock Index fund, and a Total Bond Market Index fund.

If you need outside help to allocate your 401(k) as well as your other investments, get it.  Many 401(k) plans offer advice or managed accounts that are more tailored to the individual participant’s situation than a Target Date Fund.  Beyond this consider hiring a qualified Fee-Only financial advisor to help you.

A 401(k) plan can be a daunting and intimidating investment vehicle.  Being dazed and confused is great when listening to Led Zeppelin.  However this state of mind has no place in plotting your financial future.

Please contact me at 847-506-9827 for a free 30-minute consultation to discuss all of your 401(k) and financial planning questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services.   

Retirement plan sponsors, do you need an independent review of your company’s plan?  Do you need help selecting a new plan provider?  Are you looking for ongoing financial advice to help you meet your fiduciary obligations and to provide a superior retirement savings vehicle for your employees?  Would you like to offer your plan participants access to fee-only, unconflicted advice on how to manage their 401(k) accounts and plan for their retirement?  Please feel free to contact me to learn about our investment consulting services for retirement plan sponsors

Photo credit:  Flickr

Target Date Funds: 6 Considerations Before Investing

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Target Date Funds are a staple of many 401(k) plans. Most Target Date Funds are funds of mutual funds. The three largest firms in the TDF space are Fidelity, T. Rowe Price, and Vanguard with a combined market share of about 80 percent. All three firms use only their own funds as the underlying investments in their target-date fund offerings. Some other firms offer other formats, such as funds of exchange-traded funds, but the fund of mutual funds is still the most common structure.

Here are 6 considerations to think about when deciding whether to use the Target Date Fund option in your company’s retirement savings plan:

Is the Glide Path really that important?

Much has been made of whether the Glide Path (a leveling of the fund’s equity allocation into retirement) should take investors to or through retirement. Target Date Fund providers spend a lot of time devising and administering the Glide Path that their funds use into and through your retirement years.   Before making too much of this, however, the key question is what will you do with your retirement plan dollars once you retire? TDF providers hope that you take the money invested in their Target Date Funds and roll these dollars into an IRA with them, maintaining your Target Date Fund position.  There are big dollars at stake for them.  In reality you might take your money out of the plan and do something else with it, including consolidating these funds with other retirement assets already in an IRA perhaps at another custodian.

How does the allocation of the Target Date Fund fit with your other investments? 

Many 401(k) participants invest their retirement dollars in a vacuum—meaning they don’t take their investments outside of the plan into consideration when making their investment choices. This is fine for younger workers just starting out.  Their 401(k) investment might be their only investment and the instant diversification of a Target Date Fund is fine here.

For those with other outside investments such as taxable accounts, a spouse’s retirement plan, and perhaps an IRA rolled over from old 401(k)s, this is a big mistake. Given that TDFs are funds of funds you might become over or under allocated in one or more areas and not know it as your account grows. Factoring the Target Date Fund allocation into your overall portfolio is critical. 

Is the Target Date Fund closest to your projected retirement date the right choice for you?

For example, a 2020 Target Date Fund is conceivably meant for someone who is 58 and retiring in seven years. If you were to take three 58-year-olds and look at their respective financial situations and tolerance for risk, it is likely that they are all fairly different. Plan providers need to do a better job of communicating to plan participants that the fund with the date closest to their projected retirement date may not be the right fund for their needs. Look at your own unique situation and pick the TDF that best fits your needs. 

Understand the underlying expenses

In some cases, the overall expense ratio may be a weighted average of the underlying funds. Others may also tack on a management fee to cover the costs of managing the fund. As with any investment, understand what you are being charged and what you are getting for your money. 

Target Date Funds don’t equate to low risk

Many participants are under the mistaken impression that investing in a Target Date Fund is a low risk proposition. As we saw in 2008, nothing could be further from the truth. Many investors in 2010 funds saw losses in excess of 20 percent. A recent review of more than 40 Target Date Fund families showed the share of stocks in the funds designed for those retiring in the current year ranged from about 25 percent to about 75 percent. As with any mutual fund, look under the hood and understand the level of risk that you will be assuming.

Investing in Target Date Funds doesn’t guarantee retirement success 

Contrary to the belief of some, investing in a Target Date Fund doesn’t guarantee that you will have enough saved at retirement.  Building a sufficient retirement nest egg is all about how much you save and how you invest those savings.  Target Date Funds may or may not be the best investment vehicle for your needs.

Target Date Funds can be a good vehicle for 401(k) participants and others who are not comfortable allocating their own investments. Unfortunately, TDFs are not a set it and forget it proposition. Investing in Target Date Funds requires periodic review to ensure that the fund you have chosen is still right for your situation. Retirement plan providers and sponsors also need to do a better job of communicating the benefits, pitfalls, and potential uses of these funds to plan participants.

Please feel free to contact me with questions about 401(k) investment options or about your overall financial and retirement planning needs.  Check out our Financial Planning and Investment Advice for Individuals page for more information about our services.  

For you do-it-yourselfers, check out Morningstar.com to analyze your Target Date Fund and all 401(k) investment options and to get a free trial for their premium services.  Please check out our Resources page for links to some additional tools and services that might be beneficial to you.  

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T. Rowe Price Target Date Funds – A Look Under The Hood

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This is another in a series of posts on Target Date Funds that I’ve written for this blog.  As both a financial planner for individual clients and an advisor to several 401(k) plans I have mixed feelings about them.  TDFs offer investors a professionally managed all-in-one investment solution.  Ideally you invest in the fund with a target date closest to your anticipated retirement date and the fund does the rest.

Personally I like TDFs more for younger investors versus those who are within say 15 years or so of retirement.  Target Date Funds have become a staple in 401(k) plans due to the safe harbor given to plan sponsors who use them as the default investment choice for those plan participants who do not make an election of their own.

Fidelity, T. Rowe Price, and Vanguard control about 80% of the assets in Target Date Funds.

Recently mutual fund ranking service Morningstar revamped its ranking methodology for Target Date Fund families.  They moved to the Gold, Silver, and Bronze rankings they implemented for mutual funds in 2012.  For the period ending December 31, 2012, only T. Rowe Price and Vanguard received the top Gold ranking.  Fidelity was ranked as Neutral.

Let’s take a look under the hood at the T. Rowe Price Target Date Funds.  T. Rowe offers funds with target dates beginning in 2005 and going out to 2055 in five year increments.  Additionally they offer an Income version of the fund for those already in retirement.

Active Management

T. Rowe uses mutual funds from its line-up of funds that are available to the public.  The underlying funds are almost exclusively actively managed in contrast to Vanguard’s use of its passive index funds.  The overall expense ratio of the funds is a weighted rollup of the underlying funds and currently ranges from 0.57% for the Retirement Income fund to 0.78% for the most aggressive fund, the Target 2055.  This is more expensive than Vanguard but all of the T. Rowe funds rank in the top quartile (less expensive) of their respective Morningstar categories. 

Solid Underlying Funds

Each of the 12 T. Rowe Price Target Date Funds received a ranking in the top quartile (the top 25%) of their respective Target Date categories, with 6 of the funds earning the top ranking or “0” from FI360 an outside service that ranks mutual funds and ETFs based upon 11 criteria.

Further, of the 19 underlying funds used across this target date series 17 had enough history to receive a 5 year Lipper ranking and 12 of those funds ranked in Lipper’s top quartile for the 5 years ended December 31, 2012.  This is a higher percentage than either Fidelity or Vanguard. 

Glide Path and Asset Classes

T. Rowe Price uses 12 asset classes in its TDFs; Vanguard uses 7; Fidelity uses 11.  This is not good or bad, but does reflect the broader approach employed by T. Rowe Price.  Note since the end of the year, Vanguard has added some funds in the fixed income area as well as some other tweaks.

T. Rowe Price’s Glide Path levels off at age 95 making it among the most aggressive of the target date fund families available.  By contrast Vanguard’s Glide Path levels off at age 72; Fidelity’s at age 80.  The Glide Path is the leveling off of the equity allocation of the fund as the investor moves into retirement and assumes that the investor will hold the fund until death; this may or may not be the case in reality.

Are Target Date Funds the Right Answer? 

As mentioned above, I have mixed feelings.  On the one hand TDFs are often a better solution than simply letting one’s retirement plan assets languish in a money market account.  On the other hand I am convinced that investors who are either comfortable doing their own allocation or who utilize an advisor are generally better served by tailoring an allocation from among the menu of investment choices offered in their 401(k) plan.

While I tend to favor Vanguard’s low cost passive approach, T. Rowe Price does an excellent job as well.  They have stuck to their knitting through the years and provide a solid option in the Target Date Fund space.

Check out Morningstar.com to look under the hood of T. Rowe’s Target Date Funds and to compare them against other alternatives that you might be considering.  Get a free trial for their premium services.

Please feel free to contact me with questions regarding your investments and your retirement planning issues.

 

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Friday Finance Links February 8, 2013 – Blizzard Edition

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Newsflash it’s February.  We finally got some real measurable snow in the Midwest; I think we have received 7 or so inches here in Chicago’s Northwest suburbs.  Good luck to our friends on the East Coast this weekend with the severe blizzard that is forecast.

Here are a few links to some great weekend financial reading.   

Personal Finance Blogs  

Miranda asks Is Your Income Information for Sale? at Cash Money Life.

Mike urges us to Beware of Backtested Market-Beating Strategies at Oblivious Investor.

Kay explains that Casinos’ tax contributions extend beyond Super Bowl wagers at Don’t Mess With Taxes. 

Posts from Fellow NAPFA Members  

Lon Jeffries asks Should You Delay Taking Social Security? at Figuide.com.

Robert Schmansky explains Bond Laddering: Generating Income From Your Portfolio at Figuide.com.   

Other financial articles from around the web 

Christine Benz shares How to Invest RMD’s You Don’t Need at morningstar.com.

Josh Charlson tells us that Morningstar is Bringing the Morningstar Analyst Rating to Target-Date Series at morningstar.com.

Dan Solin explains The Hidden Danger of Being a Sophisticated Investor  at usnews.com.

In case you missed it here is my latest post for the US News Smarter Investor Blog Should You Switch to a Roth 401(k)? 

Here’s wishing everyone a great weekend.

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Target Date Funds Don’t Guarantee Retirement Success

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A recent article in the Wall Street Journal professional edition was entitled “Target” Funds Still Missing the Mark. The premise of the article was that Target Date Funds were falling short in their investment returns and were doing nothing to help 401(k) participants regain some of the ground they had lost during the 2008-09 stock market decline.  Another Wall Street Journal Article in early 2011 cited an Alliance Bernstein survey of 1,000 workers which over half “mistakenly believed that using target-date funds would guarantee that their retirement income needs will be met.”

As both a financial planner working with individual investors and as an advisor to several 401(k) plan sponsors I find this survey result appalling and disturbing.  Moreover, it reinforces my concerns that 401(k) participants as well as some plan sponsors really don’t understand the pros and cons of Target Date Funds.

The fund companies offering them would be the first to tell you that there is nothing guaranteed about TDFs. There is a growing movement within the retirement plan space to add guaranteed-income products to Target Date Funds, but this won’t guarantee retirement success either.

Is a Target Date Fund the right choice for you?

The key to determining if a Target Date Fund is the right choice for your retirement savings is to understand them.  If you are considering a TDF for all or part of your 401(k) account or as an investment in general, here are two things to consider:

  • Target Date Funds from various providers with the same target date may vary widely as to their asset allocation and investment approach. There is no requirement that a TDF with a given target date have any particular allocation to equities, fixed income, etc.  The fund with the target date closest to your intended retirement might not be the best fund for your needs. As with any investment, you need to look at the fund’s investment allocation in light of your financial goals, risk tolerance, etc. You should also look at the fund as a part of your overall portfolio if you have investments outside of your retirement plan, such as IRAs, taxable accounts, a spouse’s retirement plan, and the like.
  • Many Target Date Funds are funds of the mutual fund company’s funds. This is the case for Vanguard, Fidelity, and T. Rowe Price, which collectively have about 80 percent of the TDF assets. This is not good or bad, but you should take a look at the funds that make up the TDF that you are considering. In some cases, I’ve seen fund companies use funds other than what I consider to be their top funds; perhaps they are looking to add assets to these funds.

Target Date Funds gather a huge amount of assets for the fund companies offering them, both as a component in many 401(k) plans and as a rollover vehicle when participants leave their employer.  Remember your investment choices should be all about you and what’s right for your situation.

Most of all, remember that the biggest single determinant in retirement success is the amount saved. If you start early, save as much as you can, have a financial plan in place, and make good investment choices, you will give yourself a good shot at accumulating enough to fund your retirement.  There are no guarantees of course.

Please feel free to contact me with questions about 401(k) plan and about your retirement planning needs.

Check out our Resources page for links to a variety of tools and services that might be beneficial to you.

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