Target date mutual funds are an interesting idea. The concept is pretty simple. You buy a fund that matches the date that you’re planning on retiring. So if you’re 60 now, you buy a target date 2020 fund. If you’re 50, target date 2030.
The idea is that the funds are more aggressive when you’re younger, but slowly get more conservative as you get close to retirement. It’s a set it and forget it way to invest. You buy the fund (probably in your 401k plan) and forget about it. They’ll adjust the holdings as you get closer to retirement.
I have three problems with the concept. First, the mix of holdings that anyone should have in their portfolio is dictated at least as much by market conditions as their age. For example, someone who was 60 in 2009 could have just bought a 100% bond portfolio, as rates had skyrocketed. Today however with rates being much lower, a mix of conservative income stocks probably makes more sense.
The second problem is that people are living a very long time now. There is this sense that if you’re retired, you should mostly be in bonds. If you’re 85, that’s probably true. But if you’re 65, you need to plan on being at least 90 years old. And that means you need a significant portion of your portfolio in some kind of growth investment, not just in bonds. Target date funds are not just in bonds at their magic date, but they probably have too many.
Third, the average target date fund is really not a fund. It’s a a collection of funds, known as a fund of funds. So essentially it’s a pre-selected basket of mutual funds. All of the costs of those funds, none of the flexibility of individual funds.
Choosing a few mutual funds takes some thought, but is not an onerous task. If you’re buying straight mutual funds, I think you’ll have more control and a better outcome if you forego the target date funds and just choose a few funds yourself.