A group of investors are shunning the most popular retirement investment on Wall Street.
Target-date funds are a professionally managed portfolio of stocks and bonds that recalibrates the mix as we hurtle toward retirement age. These funds now attract 64 cents of every dollar that flows into 401(k) plans, Vanguard Group data shows, and hold trillions in assets.
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They are the default choice for millions of retirement savers who are automatically enrolled in 401(k) plans. But, like Taylor Swift or pizza, they also have haters.
Those who are shunning target-date funds say they are doing it for a range of reasons. Often, they balk at paying the fees these funds charge. On average, target-date funds cost 0.68% a year, according to Morningstar Direct.
Others decide the one-size-fits all approach that target-date funds provide no longer works after they reach certain financial and life milestones. Retirees, for example, sometimes retool their portfolios to buy investments that generate income, such as dividend-paying stocks.
Some simply want a more aggressive strategy than their target-date funds offer.
This spring, Brooke Hurley, 24, moved all of her 401(k) money out of target-date funds and into low-cost stock index funds. Her goal was to have more money in the stock market.
“Having 10% in bonds now doesn’t sound like much,” Hurley said. “But it was a red flag to me.”
While these select few move money out, most Americans continue to embrace target-date funds. They offer age-appropriate asset allocation and automatic rebalancing that might help to spare investors from making mistakes that cause them to miss out on returns or to take on too much risk, said David Stinnett, head of strategic retirement consulting at Vanguard.
Thanks in part to the proliferation of target-date funds, the percentage of 401(k) savers with nothing in stocks has declined from 13% in 2005 to 3% today, Vanguard data shows.
Still, many investors are willing to take their chances elsewhere.
Too safe
Hurley, who works in compliance at a financial-services company, hired a financial adviser to help her plan for retirement.
The adviser, Steven Calio, showed her that if she continues to save 5% a year for the next 45 years, she could miss out on as much as $130,000 in gains by age 65, compared with investing 100% in stocks for 25 years before switching to a mix of stocks and bonds.
For now, Hurley plans to keep her $9,000 401(k) balance in stock index funds.
Older investors often reach the same conclusion as Hurley.
Philip Hamilton, a 61-year-old supply-chain manager, has put up to 20% of every paycheck into his 401(k) since his 20s. Last year, his employer said the fund his 401(k) money had been in was closing and offered employees a variety of options for where to move their money. Most of them were target-date funds, said Hamilton.
Instead, he went with a portfolio with about 80% in stocks, including index funds and 18 companies in the oil, gas and defense industries. Hamilton has a little less than a million saved and hopes to retire in the next few years. He feels he has enough money to withstand the potential risk of investing heavily in stocks.
“I’ve got my safe money in bonds and I’ve got enough [in bonds] to cover five years of spending,” he said. “I can throw the rest of the money into stocks and try to get a return.”
Since 1926, U.S. large stocks have risen an annualized 7.19% after adjusting for inflation, far exceeding the 2% gain for U.S. long-term government bonds, according to Morningstar Direct. But advisers and others caution against going all in on stocks. Because U.S. government bonds often rise when stocks fall, those with diversified portfolios can more easily stick with stocks during bear markets and avoid missing out on a rebound.
Target-date funds aren’t just in retirement accounts. They have also grown in broker accounts and are in many 529 college savings plans that help families save for education expenses.
Jairaj Puthenveettil, 57, and his wife started contributing $400 a month to a target-date fund in a 529 plan as soon as their daughter, Suhasini, 18, was born.
The returns were modest. So, in 2013, the Newton, Mass., resident began putting his contributions into an S&P 500 index fund instead. That fund grew to about $190,000 by 2024, a significantly better outcome than Puthenveettil calculates the target-fund would have generated.
Suhasini will begin at George Washington University in the fall, where tuition costs more than $62,000 a year.
“I am happy that we have enough money to cover her educational costs without having to tap in to our savings,” he said.
Too expensive
Target-date funds can have higher fees than many stock index funds, given that they automatically rebalance from winners to losers and shift toward a more conservative investment mix over time.
Michael Palmer, 35, balked at the cost. The Chicago resident was automatically enrolled in a target-date fund when he joined the workforce in 2011 and again when he switched jobs in 2018.
“The target-date fund was the default so it was the easy option,” said Palmer, who works in sales for a consumer-products company and has $420,000 in 401(k) savings.
He and his wife, Kelly Palmer, 35, recently decided to sell the target-date fund in his former employer’s 401(k) plan, which charges 0.26% a year, and replace it with a U.S. stock index fund and an international stock index fund that cost 0.02% and 0.03% a year, respectively.
He stuck with the target-date fund in his current employer’s plan, which charges 0.32%, because there are no lower-cost options, he said.
Kelly, a financial adviser, said the couple wants more in stocks than her husband’s target-date funds provide until they are within 15 years of retirement.
“I have begun talking to many of my clients about moving out of target-date funds,” said Raman Singh, an adviser in Phoenix. By switching to an index fund, a client with $1.8 million in savings was able to save $3,600 a year in fees.
Write to Anne Tergesen at [email protected] and Oyin Adedoyin at [email protected]
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