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By Rich Weiss - August 28, 2017
If you have a retirement plan at work, such as a 401(k), you may have received a list of the available investment options as part of the enrollment process. For many, this step of determining which options to choose can be a daunting task. That's why many plans are using target-date funds as the default option. Up to 88 percent according to one study.1
What's made these types of investments so attractive for retirement savers? For 401(k) savers and IRA holders alike, target-date funds address important investment concepts, such as diversification and an investor's time horizon. In contrast, savers invested in only a money market fund would find themselves lacking the stock exposure needed to reach their retirement goals. Here we explore how target dates tackle these challenges.
Target-dates are named for the main feature they offer investors—an investment mix that shifts over time based on a date you choose. The date refers to when you plan to start using your money, typically around the year you plan to retire. The mix refers to the combination of stock, bond and money market mutual funds.
Portfolios with a "far-term" date start out with more stocks and are considered to be more aggressive. As the target date approaches, portfolio managers dial down risk to be more conservative by reducing the exposure to stocks and increasing exposure to bonds and money markets. For example, a target year of 2045 will generally have more stocks than a target-year of 2025.
Target-date funds are generally broadly diversified, which means they can include a variety of asset classes: stock, bond and money market mutual funds. Having these different types of investments are important because they respond differently when markets change. When one investment type is in favor, another may be down.
You should note that diversification does not ensure a profit, or shield you from loss of principal. However, it can help you ride out market ups and downs, which may help take some of the emotions out of investing.
When you choose a target-date portfolio, you're often choosing a fund-of-funds option, meaning the portfolio holds several underlying mutual funds. Experienced money managers handle the day-to-day work of adjusting allocations to the underlying mutual funds to determine the appropriate combination of asset classes. They also monitor and rebalance the portfolio to lower risk as the target date approaches.
You could choose your own selection of stock, bond or money market mutual funds, however that may involve additional steps and resources. For example, if there are account minimums, you would need to have enough money to cover each individual fund. You would also need to research each investment option to know how much of each to hold in your portfolio. Choosing a target-date fund gives you the convenience of a diversified portfolio in a single investment.
The good news is that the benefits of target-date investments described here are available beyond workplace retirement plans. Explore our target-date fund options or call us at 1-800-345-2021 to discuss your options.
The good news is that the benefits of target-date investments described here are available beyond workplace retirement plans.
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August 28, 2017
1 2017 Defined Contribution Trends, Callan Institute.
A target date is the approximate year when investors plan to retire or start withdrawing their money. The principal value of the investment is not guaranteed at any time, including at the target date.
Each target-date portfolio seeks the highest total return according to a preset asset mix. Over time, the asset mix and weightings are adjusted to be more conservative. In general, as the target year approaches, the portfolio's allocation becomes more conservative by decreasing the allocation to stocks and increasing the allocation to bonds and money market instruments.
Diversification does not assure a profit nor does it protect against loss of principal.
The opinions expressed are those of American Century Investments (or the portfolio manager) and are no guarantee of the future performance of any American Century Investments' portfolio. This material has been prepared for educational purposes only. It is not intended to provide, and should not be relied upon for, investment, accounting, legal or tax advice.