When they were introduced, Target Date Funds (TDFs) were touted as a no brainer investment. Much of the education presented by fund companies to 401(k) participants portrayed these funds as a place where participants can “set it and forget it.”
In my opinion, no such investment exists. I’m not knocking TDFs. Rather 401(k) participants need to understand what they are investing in and whether or not these TDFs are right for their unique situation. Is the fund nearest their probable retirement date too heavy or too light on equities for their goals and risk tolerance?
Further, 401(k) plan sponsors also need to perform their due diligence. Just because their plan is with the likes of Fidelity, Principal, or the American Funds doesn’t mean that any of these provider’s TDFs are right for their participants. It is incumbent upon plan sponsors to “look under the hood” of these funds. What are the fund’s underlying investments? Are they too heavy or too light in equities in the various target years? What does each group’s glide path into retirement look like? Do their participants tend to leave their money in the plan at retirement or do they tend to roll their money out of the plan? Plan sponsors need to perform the same level of due diligence with the selection of TDFs as they would with any other investment choice.
JP Morgan has a tool called Compass that compares the makeup of various near-dated TDFs (currently the 2010 funds). The range in equities among the 40 funds shown in the JP Morgan analysis was from about 20% to almost 75%. The recent Congressional hearings on TDFs illustrated that two funds with the same target date might have radically different investment allocations and levels of risk.
My bias would be for plan sponsors to offer their participants access to qualified unconflicted advisors. These advisors are able to offer each participant specific advice as to how to allocate their accounts from among the investment options offered by the plan. Perhaps the recently passed Financial Reform Bill and the pending Advice Provisions of the Pension Protection Act (PPA) will help plans to move in this direction. Participant education is fine, but plan participants are better served by direct, live investment and retirement planning advice.
Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner.