Retirement Step by Step
Life-cycle funds put your investment portfolio on autopilot, with bold strategies giving way to safer bets as you get older
If the 1990s was the era of the do-it-yourself investor, then this decade may well be remembered for a new breed: the set-it-and-forget-it type. Dangle a 401(k) or similar retirement plan in front of most Americans, and they'll jump right in. They know they need to save and invest for the future.
Yet there's a troubling trend: Once the typical investor sets up his plan, he might as well be comatose. From the bear market of 2000 to a new bull market in 2004, more than 3 in 5 investors in 401(k)'s failed to make a single change to their accounts, according to a recent survey by consultants Hewitt Associates.
True, investors didn't panic and sell when stocks were at their lowest, but financial planners say their lack of engagement is downright frightening.
Enter the mutual fund industry's solution to the problem: the life-cycle fund. Also known as a target retirement portfolio, the life-cycle fund is a new twist on an old investment standby: the asset allocation fund. But unlike those all-in-one mutual funds, which give you a diversified but unchanging mix of stocks, bonds, and cash, life-cycle funds automatically evolve as you age.
When you're 25, these portfolios might put 80 percent or more of your money in stocks. But as you turn 40 and then 50 and eventually retire, the funds will gradually and automatically dial down the risk in your portfolio by buying more bonds.
Life-cycle funds put your portfolio on autopilot for a lifetime: Set it and forget it.
"People are after simplicity now," says Jeff Mortimer, head of equity portfolio management at Charles Schwab Investment Management, which recently launched its own target retirement funds. "They learned over the past five years or so that investing isn't as easy as they thought."
Target retirement funds aren't new--Fidelity's Freedom Funds were launched in 1996--but they've "really only begun to come into their own in the last 12 months," says Andrew Clark of mutual fund tracker Lipper Inc. Last year, investors plowed nearly $23 billion into target retirement funds, according to the financial research firm Strategic Insight, more than 12 times the amount they stuffed into these portfolios in 2000.
If life-cycle funds seem familiar to you, they should: Baby boomer parents saving for their kids' education in popular 529 college savings plans have age-based investment options using the same concept.
With more and more fund companies bringing out new life-cycle options--Schwab, MFS, and Putnam are among the latest to have joined this crowd, competing with longtime participants like Fidelity, Vanguard, and T. Rowe Price--assets in such portfolios are likely to grow by leaps and bounds.
So, are life-cycle funds for you? Financial planners have mixed opinions.
The cons:
Many target date funds tend to be too conservative, especially at retirement, when today's 60-something might expect to live for another 20 to 25 years.
A cookie-cutter approach to retirement planning can be dangerous. The only factor these funds use to make investment decisions on your behalf, says Gayle Oboy, a financial planner in Marion, Ohio, is the date at which you plan to retire. Yet two people who are roughly the same age and who plan to retire at around the same time might have different financial needs and far different tolerances of investment risk.
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