It might be time to rethink which target-date fund you’re investing in with a different calculation in mind.
To summarize, target-date funds are mutual funds designed by brokers to align with your retirement year. They rebalance periodically, becoming more conservative as you approach your target year. They’re easy, hands-off products for retirement investors.
This makes them good for beginners, as I wrote here, but not necessarily for more savvy investors. Still, they’re “offered by nearly 90 percent of employer-sponsored defined contribution plans,” reports Finra.org.
So, if you’re stuck with target dates, you want to watch out for pitfalls. One of which is that you might find that the asset allocation of the fund in question does not align with your actual risk tolerance—in my experience, it’s been too conservative—if you pick the actual year you think you might retire, which is how people are typically advised to choose one. (For example, if you’re in your late 20s this year and plan to retire at 65, you might choose the 2055 fund.)
Instead of focusing on the year, pick the target-date fund that aligns with your risk tolerance and investing strategy. For example, you might be offered multiple funds with the same target dates, but how they get to that end date is different. The target year slapped on the fund name might give you the feeling of security, that that is the right one to go with, but that doesn’t mean that it’s right for you.
“Target-date funds generally aim to become more conservative over time, but the initial and ending asset allocations of the fund and the rate at which the funds grow more conservative—the glide path—can vary dramatically from fund to fund,” notes Finra.
Paying attention to this so-called “glide path” is important (you should be able to find it in the fund’s prospectus). “Remember that there is not one right or ideal glide path, and that both the risk and performance of your target-date fund will likely be affected by the glide path planned for the fund,” writes Finra.
If you have two or three different fund offerings with similar target dates, compare their strategies with your risk tolerance and pick the one that suits you best. Also remember to check in periodically to ensure that this path has been deviated from, and that you’re still comfortable with your asset allocation.
And of course, check the fees for each fund. Just because two or more funds may have the same end date doesn’t mean they’re created equally.