Why are lifecycle funds so equity-heavy?

[RadicalIdeal]

I've been preparing to get my financial house in order (it's in reasonable shape, just… cluttered), and as part of that discovered this forum and the books that have come out of it. In my reading, there's something that has puzzled me.

I notice that most portfolios presented as reasonable in the books have a certain split between stock and bond funds, and usually bonds are expected to make up the same percentage of the portfolio as the holder's age in years (with certain hard limits, and sometimes the rule is age minus 10 or age minus 20. So a portfolio for a 40-year-old would be 60% stock fund and 40% bond fund, or at most 80/20.

I've also noticed that the corresponding lifecycle funds from Vanguard and Fidelity are more heavily weighted toward stock than that. For example, the Vanguard Target Retirement 2045 Fund (VTIVX), which should be appropriate for a 40-year-old assuming a retirement age of 65, is split 90% stock, 10% bond.

This weighting sounds unsafe by the heuristics in the books, yet target date funds are presented as a good option for investors that want a set-it-and-forget-it portfolio.

What am I missing? Are these funds simply waiting to be rebalanced after a rally for stocks? Have people not noticed the split? Is this advice out of date? Or is there an obvious answer that I'm just missing?

[David Jay]

VG TargetRetirement ends up at 30/70. It is only equity-heavy in the first couple decades of the earning years, it starts trending down sharply beginning about 10 years before retirement.

The solution to your issue is to select a Target Date fund based on your personal AA, not based on the “date” name of the fund. If it is inside of a 491K or IRA you can switch as desired. We often counsel folks not to select the fund based simply on the date

[eye.surgeon]

The answer is that age in bonds was never a particularly good rule of thumb and even less so in the age of ultra-low interest rates.

[vineviz]

This weighting sounds unsafe by the heuristics in the books, yet target date funds are presented as a good option for investors that want a set-it-and-forget-it portfolio.

What am I missing? Are these funds simply waiting to be rebalanced after a rally for stocks? Have people not noticed the split? Is this advice out of date? Or is there an obvious answer that I'm just missing?

You’re probably just reading books with bad advice.

Target date funds are designed to meet the needs investors with the least amount of risk and the highest probability of success.

[retiredjg]

Welcome to the forum

The story I heard (but did not witness myself) is that the target retirement funds started out less aggressive than now. Then someone made theirs a little more aggressive and it performed better than the rest of the field.

Each time one of the competitors made theirs a little more aggressive, everyone followed along so that their 2050 fund could compete with the others' 2050 funds. And so on.

Whether this is true or not doesn't really make much difference. Many people (not all people) have felt for years that they are all too aggressive. The companies seem to either not comment or stand by their ratios.

Long story short...there is no universal opinion about what is "right" so the recommendation is to pick a target fund by it's stock to bond ratio rather than the date in the name. Pick the risk level you are comfortable with.

I feel the current aggressive ratios are fine financially but not so fine for many people emotionally. And one's emotions should never be ignored when it comes to investing.

[JVT]

A lot of people will do 'age - X' in bonds rather than 'age in bonds' where X may be 20 or some other number, the general thinking being that in your 20's and 30's you can afford to take more risk as you have a longer time line for it to recover. Some books and articles may still recommend it, but I would not recommend being 45% bonds until you are at/just past retirement age.

[Marseille07]

The latest trend I heard was "120 - age," so at age 35 it'd be 120 - 35 = 85 or 85/15. I tried this for 3 months then decided I'll just do 80/20 forever.

[ivgrivchuck]

What am I missing? Are these funds simply waiting to be rebalanced after a rally for stocks? Have people not noticed the split? Is this advice out of date? Or is there an obvious answer that I'm just missing?

Theoretically the optimum way of investing for retirement is to stay near 100% in equities until around 20 years before the retirement. And then glide down. Because in 20+ years time horizon equities are almost certainly a better investment than bonds.

This isn't recommended in the books, because to be able to invest this way, people will need be able to stomach losses of 50%-60% of their portfolio, and very few amateurs (even seasoned amateurs) are capable of staying the course when it happens.

The solution is simply to invest into a target date fund and never check the balance until retirement.

It isn't a bad system at all... In the World of investing, you are your own worst enemy...

P.S. I use 120 - x because it actually gets pretty close to what target date funds do. It's a little bit more conservative, but that suits me fine as my investments are not solely for retirement.

[Dennisl]

It's the argument of getting you to retirement vs getting you through retirement. A 100% bonds allocation may run out before you're done with your retirement, so that's why they keep you invested in stocks.

[galawdawg]

Welcome to Bogleheads!

Cookie cutter rules about asset allocation (age in bonds, 120-age in bonds, etc) are rarely the wisest approach. One should decide upon an asset allocation appropriate to their individual and personal circumstances and their ability, willingness and need to take risk.

Here is a link to a Boglehead article on the subject of asset allocation: https://www.bogleheads.org/wiki/Asset_allocation

Target date funds are not for everyone. But for investors who have little or no interest in managing their own portfolio, who don't know how to invest for retirement, or who would otherwise make unwise or risky investment decisions (frequent trading, high-cost funds, using unscrupulous "financial advisors" and so on), target date funds are a good default option.

[willthrill81]

This weighting sounds unsafe by the heuristics in the books, yet target date funds are presented as a good option for investors that want a set-it-and-forget-it portfolio.

What am I missing? Are these funds simply waiting to be rebalanced after a rally for stocks? Have people not noticed the split? Is this advice out of date? Or is there an obvious answer that I'm just missing?

You’re probably just reading books with bad advice.

Target date funds are designed to meet the needs investors with the least amount of risk and the highest probability of success.

Correct. 'Age in bonds' is among the worst methods of determining one's AA.

If it weren't for regulations, most TDFs with a 'date' more than 20 years out would probably be 100% stocks.

[rkhusky]

It's all well and good to talk about ability, willingness and need to take risk, but most people can't quantify risk, much less know how to quantify their own risk tolerance.

And you usually won't know your risk tolerance until you are confronted with it. Also, your risk tolerance will change over time depending on your circumstances - portfolio size, age, health conditions, job security, job satisfaction, etc.

Rules of thumb are a good starting point for determining your AA. Checking out the recommendations of various company's target date funds is another good method. Looking at the performance of different AA's through history is also a useful exercise. Imagining your response to losing half your equity position is another exercise - do you look at is a chance to buy stocks cheap or as having to work another 5 years to compensate.

[matti]

I'm 41yo and have all of my retirement assets in Vanguard Target Retirement 2040, which is at 82/18 now, if I recall correctly. I like the "set it and forget it" approach. I'm mostly a novice investor and I like that I don't have to really think about the intricacies of investing. It also keeps me from tinkering or trying to "optimize" my portfolio based on recent news or my emotions.

For a while, I thought it was too stock heavy. However, I remember some great comments from folks on this board that said you have to remember you don't need to necessarily have reached your target retirement asset goal on the day you retire (let's call it X). You can actually have your retirement assets be less than X on the day you retire, knowing that your retirement dollars may have to last several decades. This is a very simple, obvious point, but it's one I overlooked when planning my investment strategy. (I have no idea if I wrote that well enough to make sense! Others that are smarter than me can probably describe this better.)

[arcticpineapplecorp.]

welcome to the forum.

many target date funds are usually around 90% until mid 40s when around 45 they reduce to 80/20 and about every 5 years or so keep reducing by 10% to wind up around 50/50 at the target date (this is the case with Vanguard). And then about 7 or 8 years from the target date (so 7 or so years into retirement) moved down from 50/50 to 30/70 and then stay there for the rest of your retirement.

I don't think there's anything unreasonable about that allocation. the trinity study says if you want a high degree of success keep your withdrawals low (4%) and your stock allocation at least 30%.

of course it's an individual decision which is why you shouldn't just pick a retirement fund based on a target date but rather on the amount of risk you need to take, have the ability to take and the willingness to take.

there were millenials who bailed on stocks a decade ago (in 2008). Just because they "should" have been 90% in stocks (or more) doesn't mean they had the willingness to do so.

you've got to be in charge of the decisions you make. If the percentage of stocks is too high, then either roll your own or pick a target date retirement fund that has the date closer to now rather than further away (i.e. a 2020 fund is less stocks than a 2045 fund). Just because you plan to retire in 2045 doesn't mean you need a 2045 fund.

of course if you take less risk, you may need to increase your contributions and/or work longer because the variables that go into investing are: 1. money, 2. time, 3. rate of return. Sacrifice any one of these and you may need to compensate with one and/or the other two.

[averagedude]

A high stock allocation in target date funds is warranted when an investor is 25+ years away from retirement. In reality though, it may be too aggressive for employees in 401k plans, especially for people who borrow from it, cash out when changing jobs, or panic sell when markets crash. Unfortunately I have witnessed this alot from coworkers.

[Charon]

I remember some great comments from folks on this board that said you have to remember you don't need to necessarily have reached your target retirement asset goal on the day you retire (let's call it X). You can actually have your retirement assets be less than X on the day you retire, knowing that your retirement dollars may have to last several decades. This is a very simple, obvious point, but it's one I overlooked when planning my investment strategy.

Could you clarify? This does not make sense to me. Your target takes into account future earnings, even if you're using a very simple strategy like 4% withdrawal rates. So yes, you need to reach your target to retire.

[RadicalIdeal]

This all looks super helpful, thank you! I'll say something more constructive when I have the time to properly process it all.

[MarkRoulo]

Welcome to the forum

The story I heard (but did not witness myself) is that the target retirement funds started out less aggressive than now. Then someone made theirs a little more aggressive and it performed better than the rest of the field.

Each time one of the competitors made theirs a little more aggressive, everyone followed along so that their 2050 fund could compete with the others' 2050 funds. And so on.

Joseph C. Nagengast tells your story, too:

Wells Fargo and Barclays Global Investors, working together at the time, rolled out the first target date funds in March 1994. Their strategy was to get the investor safely to the target date and at that point to fold the dated fund into their Income fund(known there as "Today"). The LifePath 2000 Fund was "folded into" the Today fund in the year 2000. They didn’t introduce their mid‐decade funds (2015, 2025) until after 2005 so we didn’t see a 2005 fund folding in at its target date.

Later in that decade and in the next, Fidelity,T. Rowe Price, Principal and Vanguard got into target date investing and began promoting them more heavily. The numbers of dollars pouring into target date strategies swelled when the ranks of former do‐it‐myself investor gave up and became do‐it‐for‐me investors following three rough years in the market, 2000—2002.

When plan sponsors and participants really started adopting tdfs in big, meaningful numbers (2002—2007), the race was on for performance numbers.

The way to win the short term performance horse race (and the resulting market share) was through higher equity allocations. Each of the major fund families found justifications for 1) increasing the equity allocations across the glidepath (See Figure 2, Glidepath illustration),and 2) extending the glide path from the target date out to some imagined date based on life expectancy. Some extend their glide path as much as thirty years beyond the target date.

...

Comments submitted to the SEC by Joseph C. Nagengast (https://www.sec.gov/comments/4-582/4582-3.pdf)

(underlining added by me)

[tj]

Welcome to Bogleheads!

Cookie cutter rules about asset allocation (age in bonds, 120-age in bonds, etc) are rarely the wisest approach. One should decide upon an asset allocation appropriate to their individual and personal circumstances and their ability, willingness and need to take risk.

Here is a link to a Boglehead article on the subject of asset allocation: https://www.bogleheads.org/wiki/Asset_allocation

Target date funds are not for everyone. But for investors who have little or no interest in managing their own portfolio, who don't know how to invest for retirement, or who would otherwise make unwise or risky investment decisions (frequent trading, high-cost funds, using unscrupulous "financial advisors" and so on), target date funds are a good default option.

But how do you pick the target year? Or the static allocation? How does one ultimately determine their your ability, willingness and need to take risk?

[willthrill81]

Welcome to Bogleheads!

Cookie cutter rules about asset allocation (age in bonds, 120-age in bonds, etc) are rarely the wisest approach. One should decide upon an asset allocation appropriate to their individual and personal circumstances and their ability, willingness and need to take risk.

Here is a link to a Boglehead article on the subject of asset allocation: https://www.bogleheads.org/wiki/Asset_allocation

Target date funds are not for everyone. But for investors who have little or no interest in managing their own portfolio, who don't know how to invest for retirement, or who would otherwise make unwise or risky investment decisions (frequent trading, high-cost funds, using unscrupulous "financial advisors" and so on), target date funds are a good default option.

But how do you pick the target year? Or the static allocation? How does one ultimately determine their your ability, willingness and need to take risk?

The target year to pick should be the one that's closest to your planned year of retirement.

If an investor is truly concerned are his/her need, ability, and willingness to take risks, then there's a decent chance that investor shouldn't be using TDFs. They were explicitly designed for 'hands off' investing, the kind of thing that you truly 'set and forget', and the data we have so far indicate that that is how most investors are treating them. The only big thing to watch out for is the expense ratios, which are far too high in many instances. Vanguard's are among the best out there in that regard.

[Ben Mathew]

Vanguard's approach to target date funds is based on a lifecycle model assuming nonzero future savings during working years. That can give you a better glidepath than a rough rule like age in bonds. Unlike age in bonds, the Vanguard glidepath is not linear. It's flat at 90/10 when young, then drops down fairly quickly in middle age, and then turns flat again at 30/70 since shortly after retirement. I believe the reason for that shape is as follows:

1. FLAT WHEN YOUNG: The early flatness is driven by the fact that a lifecycle model will suggest leveraging when young (because very little savings are in yet.) If you rule out leveraging, then you top out at 100% for a while when you are young. Vanguard drops that down to 90% I believe in a nod to investor psychology. So we have 90% for a while because the model is actually saying >90% and Vanguard doesn't want to go there.

2. DOWNWARD SLOPING IN LATTER PART OF CAREER: Enough savings are now in that the lifecycle model recommends less than 90% stock. More savings still scheduled to come in, so glidepath remains downward sloping.

3. FLAT IN RETIREMENT: No more savings coming in. So glidepath is flat.

Vanguard explains some aspects of their lifecycle approach here: Vanguard's approach to target date funds

P.S. Because the shape of the glidepath is tied to year of retirement, getting a closer-in target date fund won't be an exact substitute for a more conservative version of the correct target date fund. It may not be a big deal--just something to be aware of.

[Steve Reading]

Vanguard's approach to target date funds is based on a lifecycle model assuming nonzero future savings during working years. That can give you a better glidepath than a rough rule like age in bonds. Unlike age in bonds, the Vanguard glidepath is not linear. It's flat at 90/10 when young, then drops down fairly quickly in middle age, and then turns flat again at 30/70 since shortly after retirement. I believe the reason for that shape is as follows:

1. FLAT WHEN YOUNG: The early flatness is driven by the fact that a lifecycle model will suggest leveraging when young (because very little savings are in yet.) If you rule out leveraging, then you top out at 100% for a while when you are young. Vanguard drops that down to 90% I believe in a nod to investor psychology. So we have 90% for a while because the model is actually saying >90% and Vanguard doesn't want to go there.

2. DOWNWARD SLOPING IN LATTER PART OF CAREER: Enough savings are now in that the lifecycle model recommends less than 90% stock. More savings still scheduled to come in, so glidepath remains downward sloping.

3. FLAT IN RETIREMENT: No more savings coming in. So glidepath is flat.

Vanguard explains some aspects of their lifecycle approach here: Vanguard's approach to target date funds

P.S. Because the shape of the fund is tied to year of retirement, getting a closer-in target date fund won't be an exact substitute for a more conservative version of the correct target date fund. It may not be a big deal--just something to be aware of.

Ben, why do you think it ramps down in the 65-70 year age range (“early retirement” in the paper)?

[retired@50]

This weighting sounds unsafe by the heuristics in the books, yet target date funds are presented as a good option for investors that want a set-it-and-forget-it portfolio.

What am I missing? Are these funds simply waiting to be rebalanced after a rally for stocks? Have people not noticed the split? Is this advice out of date? Or is there an obvious answer that I'm just missing?

I think one of the main benefits of target date funds is the simplicity. There are so many people that never think about proper asset allocation, or read a book about investing that we tend to lose sight of that here on Bogleheads. Most frequent posters here have probably read 10 or more books on investing.

The simplicity that is baked into a target date fund includes the automatic re-balancing, the age-appropriate level of risk, and the broad market exposure to the relevant asset classes, often all these benefits are being provided at a cost under .20%. This level of sophistication and diversification was practically unthinkable thirty years ago.

The sheer number of mistakes that can be avoided by using a target date fund for life strains the imagination. No knee-jerk reactions to market ups and downs, No "moving to cash" until the market settles down, etc. So many people shoot themselves in the foot at least once in their investing lifetimes. These products have a lot of good features that are hard to duplicate, even for disciplined investors.

Regards,

[Ben Mathew]

Vanguard's approach to target date funds is based on a lifecycle model assuming nonzero future savings during working years. That can give you a better glidepath than a rough rule like age in bonds. Unlike age in bonds, the Vanguard glidepath is not linear. It's flat at 90/10 when young, then drops down fairly quickly in middle age, and then turns flat again at 30/70 since shortly after retirement. I believe the reason for that shape is as follows:

1. FLAT WHEN YOUNG: The early flatness is driven by the fact that a lifecycle model will suggest leveraging when young (because very little savings are in yet.) If you rule out leveraging, then you top out at 100% for a while when you are young. Vanguard drops that down to 90% I believe in a nod to investor psychology. So we have 90% for a while because the model is actually saying >90% and Vanguard doesn't want to go there.

2. DOWNWARD SLOPING IN LATTER PART OF CAREER: Enough savings are now in that the lifecycle model recommends less than 90% stock. More savings still scheduled to come in, so glidepath remains downward sloping.

3. FLAT IN RETIREMENT: No more savings coming in. So glidepath is flat.

Vanguard explains some aspects of their lifecycle approach here: Vanguard's approach to target date funds

P.S. Because the shape of the fund is tied to year of retirement, getting a closer-in target date fund won't be an exact substitute for a more conservative version of the correct target date fund. It may not be a big deal--just something to be aware of.

Ben, why do you think it ramps down in the 65-70 year age range (“early retirement” in the paper)?

The idea might be that people in early retirement can alter their plans and work longer or part-time for a while if stocks do badly. So early retirees might have a higher ability to tolerate risk than they will later on. Page 5 (my bolding):

... Vanguard TDFs still offer 50% equity exposure at an investor’s designated retirement year (including both U.S. and international stocks—see Figure 2)—which is gradually reduced over the next seven years to 30%. This allocation recognizes that, if absolutely necessary, most preretirees and recent retirees still have the ability—though far less so than younger investors—to alter their retirement plans ...

[galawdawg]

Welcome to Bogleheads!

Cookie cutter rules about asset allocation (age in bonds, 120-age in bonds, etc) are rarely the wisest approach. One should decide upon an asset allocation appropriate to their individual and personal circumstances and their ability, willingness and need to take risk.

Here is a link to a Boglehead article on the subject of asset allocation: https://www.bogleheads.org/wiki/Asset_allocation

Target date funds are not for everyone. But for investors who have little or no interest in managing their own portfolio, who don't know how to invest for retirement, or who would otherwise make unwise or risky investment decisions (frequent trading, high-cost funds, using unscrupulous "financial advisors" and so on), target date funds are a good default option.

But how do you pick the target year? Or the static allocation? How does one ultimately determine their your ability, willingness and need to take risk?

The target year to pick should be the one that's closest to your planned year of retirement.

If an investor is truly concerned are his/her need, ability, and willingness to take risks, then there's a decent chance that investor shouldn't be using TDFs. They were explicitly designed for 'hands off' investing, the kind of thing that you truly 'set and forget', and the data we have so far indicate that that is how most investors are treating them. The only big thing to watch out for is the expense ratios, which are far too high in many instances. Vanguard's are among the best out there in that regard.

willthrill81 beat me to it.

Target date funds are a "pick and forget" option generally appropriate for all investors which is why they are now usually the default investment option for company 401k and other defined contribution plans.

If an investor doesn't know how to determine their own asset allocation or isn't interested in doing so, then picking the year closest to when the investor will likely retire, or reaches age 65, is a "safe" option.

If you really want to learn more about asset allocation, the Bogleheads article I linked earlier is a good starting place, along with the Larry Swedroe series of articles linked in the footnotes. Tou may also wish to consider reading Bill Bernstein's "The Intelligent Asset Allocator" or Rick Ferri's "All About Asset Allocation".

[nisiprius]

This can't be stressed too much. There is no objectively correct amount of risk tolerance. Now mine, for example, is on the low end of the range, and I know it. What is important is to know what yours is, and not let yourself get "anchored" by sample portfolios or talked into departing into whatever is right for you.

The curves above are the benchmarks Morningstar uses for target-date funds. Somewhere they have a chart of about twenty real-world target-date funds and they look like a child had done a respectable job of coloring in between the red and purple lines. Age 55 implies retirement in 2030, and the Vanguard Target Retirement 2030 account, VTHRX, Measured, not by any objective reality--because there isn't any--but by the range of things other mutual fund companies have done, what you can say is that Vanguard is somewhere between "moderate" and "aggressive." Compared to its peers, it is a little more equity-heavy than the average but by no means extreme.

Now, as to "why," here is my personal theory. One problem with target-date funds, and indeed investment management in general, is competitive pressure. The stock market is usually going up. Well, when it is going up, the higher the percentage of stocks, the higher the annual returns. So most of the time, if you have a table of returns, the funds with more stocks are going to be showing higher numbers than funds with less. Vanguard started out with lower stock allocations, and increased them all by quite a bit, like 10 or 15% of portfolio, around 2006. Vanguard has said that this is because they found that their customers were less risk-averse than they had originally thought. I personally am skeptical but that is what Vanguard has said.

Anyway, don't fuss about Vanguard's target-date funds. Do your very best to determine what your personal risk tolerance really is. If the stock allocations of the lifecycle funds seem heavy to you, then do not use them. Look at Vanguard's four LifeStrategy Funds, which are quite similar to the target-date funds, but have fixed stock allocations of 80/20, 60/40, 40/60, and 20/80. Pick the one that best suits you. It's not necessary to tweak stock allocation by tiny amounts every year. IMHO the chief advantage of the target-date funds is just that it gives HR departments an easy way to steer 401(k) participants toward a reasonable choice quickly.

[Valuethinker]

Welcome to the forum

The story I heard (but did not witness myself) is that the target retirement funds started out less aggressive than now. Then someone made theirs a little more aggressive and it performed better than the rest of the field.

Each time one of the competitors made theirs a little more aggressive, everyone followed along so that their 2050 fund could compete with the others' 2050 funds. And so on.

Whether this is true or not doesn't really make much difference. Many people (not all people) have felt for years that they are all too aggressive. The companies seem to either not comment or stand by their ratios.

Long story short...there is no universal opinion about what is "right" so the recommendation is to pick a target fund by it's stock to bond ratio rather than the date in the name. Pick the risk level you are comfortable with.

I feel the current aggressive ratios are fine financially but not so fine for many people emotionally. And one's emotions should never be ignored when it comes to investing.

This is, AFAIK, completely correct.

Style drift due to relative performance.

So it's not only individuals who make these investment errors, but investing professionals and their firms as well.

[Valuethinker]

This can't be stressed too much. There is no objectively correct amount of risk tolerance. Now mine, for example, is on the low end of the range, and I know it. What is important is to know what yours is, and not let yourself get "anchored" by sample portfolios or talked into departing into whatever is right for you.

The curves above are the benchmarks Morningstar uses for target-date funds. Somewhere they have a chart of about twenty real-world target-date funds and they look like a child had done a respectable job of coloring in between the red and purple lines. Age 55 implies retirement in 2030, and the Vanguard Target Retirement 2030 account, VTHRX, Measured, not by any objective reality--because there isn't any--but by the range of things other mutual fund companies have done, what you can say is that Vanguard is somewhere between "moderate" and "aggressive." Compared to its peers, it is a little more equity-heavy than the average but by no means extreme.

Now, as to "why," here is my personal theory. One problem with target-date funds,and indeed investment management in general, is competitive pressure. The stock market is usually going up. Well, when it is going up, the higher the percentage of stocks, the higher the annual returns. So most of the time, if you have a table of returns, the funds with more stocks are going to be showing higher numbers than funds with less.Vanguard started out with lower stock allocations, and increased them all by quite a bit, like 10 or 15% of portfolio, around 2006. Vanguard has said that this is because they found that their customers were less risk-averse than they had originally thought. I personally am skeptical but that is what Vanguard has said.

Anyway, don't fuss about Vanguard's target-date funds. Do your very best to determine what your personal risk tolerance really is. If the stock allocations of the lifecycle funds seem heavy to you, then do not use them. Look at Vanguard's four LifeStrategy Funds, which are quite similar to the target-date funds, but have fixed stock allocations of 80/20, 60/40, 40/60, and 20/80. Pick the one that best suits you. It's not necessary to tweak stock allocation by tiny amounts every year. IMHO the chief advantage of the target-date funds is just that it gives HR departments an easy way to steer 401(k) participants toward a reasonable choice quickly.

I can confirm that the underlined is true, at least from a UK perspective.

Funds in the UK, and I believe the USA to be no different, sell by League Tables.

Most investors (& far too many advisors) do not consider beyond that. The average punter (customer) doesn't really understand what a Standard Deviation is. I watch people mentally "bank" 10% stock returns p.a. as a "given".

(a general problem with all risk descriptors, but in particular annualized ones is our inability to imagine our reactions when in that future state. One really cannot imagine what losing half (or 90%) of one's portfolio feels like, until one has does it. Also I was a lot braver in 2000-03 (-35% on the index, -90% on personal portfolio including employer stock) and 2008-09 (-50% nearly on markets, I have no idea what I was down, I simply stopped checking) really changed my understanding and appreciation of personal risk - I just don't have the working years to make it back, anymore. What I would do if faced with a 1966-1981 or 1929-1942 I just don't know).

Nisiprius's proposed remedy is a good one. I agree with the contents of his/ her last paragraph.

[nisiprius]

RadicalIdeal, another thing you're missing from the books is that (in my arrogant opinion) 99% of all investment writing is overconfident and insanely overprecise. John C. Bogle once said that the most important piece of advice he ever got, was early in his career, when an old-timer at the firm he was working at told him "Nobody knows nothing."

It is my personal belief that you can't say much more beyond "it is a good idea to hold both stocks and bonds" and "it is a good idea to reduce risk as you approach retirement."

Notice that Vanguard only provides four choice in the LifeStrategy funds: 80/20, 60/40, 40/60, 20/80. That tells you that they don't think there's any need to provide fine-tuned intermediate choices. They don't have a hundred funds, 80/20 and 79/21 and 78/22 and so on. They don't even have 70/30 or 50/50. Four sizes fit all.

Rather than comparing target-date funds to book suggestions, I suggest you look carefully for yourself at samples of past history and do your best to measure them against what you know of your personal risk tolerance. What you need to do is not to get some fine tuning adjusted to an optimum, but to be pretty sure that you have picking something roughly right that you will be able to stick to. The reason I say "roughly right" is that I don't think it's possible to be better than roughly right.

[vineviz]

Anyway, don't fuss about Vanguard's target-date funds. Do your very best to determine what your personal risk tolerance really is. If the stock allocations of the lifecycle funds seem heavy to you, then do not use them. Look at Vanguard's four LifeStrategy Funds, which are quite similar to the target-date funds, but have fixed stock allocations of 80/20, 60/40, 40/60, and 20/80. Pick the one that best suits you. It's not necessary to tweak stock allocation by tiny amounts every year. IMHO the chief advantage of the target-date funds is just that it gives HR departments an easy way to steer 401(k) participants toward a reasonable choice quickly.

I take the other side of this approach.

If the stock allocations of the lifecycle funds seem heavy to you, then learn why you're wrong.

Most lifecycle funds have too small an allocation to stocks, not too high an allocation. In other words, they've ALREADY made a compromise between investor perception and reality. There's no need to compound that error through personal intervention.

[3funder]

The short answer: time horizon. If 25 years from retirement, it is reasonable to have a stock-heavy portfolio if one desires. If you are uncomfortable with a heavy stock allocation, invest in a fund that glides down sooner.

[Steve Reading]

Notice that Vanguard only provides four choice in the LifeStrategy funds: 80/20, 60/40, 40/60, 20/80. That tells you that they don't think there's any need to provide fine-tuned intermediate choices. They don't have a hundred funds, 80/20 and 79/21 and 78/22 and so on. They don't even have 70/30 or 50/50. Four sizes fit all.

That tells me they think you're smart enough to couple two of those funds together, in whatever proportion, to achieve any level (like 78/22). That way they don't have to manage 100 different funds for no reason. With the four funds, it's not too much of a headache for managing, a large amount of people will probably be fine holding one, and for those that want the additional fine-tuning can do it very easily too.

[willthrill81]

Notice that Vanguard only provides four choice in the LifeStrategy funds: 80/20, 60/40, 40/60, 20/80. That tells you that they don't think there's any need to provide fine-tuned intermediate choices. They don't have a hundred funds, 80/20 and 79/21 and 78/22 and so on. They don't even have 70/30 or 50/50. Four sizes fit all.

That tells me they think you're smart enough to couple two of those funds together, in whatever proportion, to achieve any level (like 78/22). That way they don't have to manage 100 different funds for no reason. With the four funds, it's not too much of a headache for managing, a large amount of people will probably be fine holding one, and for those that want the additional fine-tuning can do it very easily too.

Of course, the person who was a 78/22 AA is not likely to buy the LifeStrategy funds to do so.

[GlennK]

Notice that Vanguard only provides four choice in the LifeStrategy funds: 80/20, 60/40, 40/60, 20/80. That tells you that they don't think there's any need to provide fine-tuned intermediate choices. They don't have a hundred funds, 80/20 and 79/21 and 78/22 and so on. They don't even have 70/30 or 50/50. Four sizes fit all.

Another possible reason for only 4 life strategy funds is the ability to combine them in the allocations you desire. If I wanted a 50/50 LifeStrategy fund, I would buy equal amounts of the 60/40 and 40/60. At least, I think it will work that way, correct?

[willthrill81]

Notice that Vanguard only provides four choice in the LifeStrategy funds: 80/20, 60/40, 40/60, 20/80. That tells you that they don't think there's any need to provide fine-tuned intermediate choices. They don't have a hundred funds, 80/20 and 79/21 and 78/22 and so on. They don't even have 70/30 or 50/50. Four sizes fit all.

Another possible reason for only 4 life strategy funds is the ability to combine them in the allocations you desire. If I wanted a 50/50 LifeStrategy fund, I would buy equal amounts of the 60/40 and 40/60. At least, I think it will work that way, correct?

But by that logic, you could achieve any AA between 80/20 and 20/80 with just those two funds. The 60/40 and 40/60 are superfluous. So apparently, Vanguard believes that the people who are most attracted to all-in-one funds want just one fund.

[Steve Reading]

Notice that Vanguard only provides four choice in the LifeStrategy funds: 80/20, 60/40, 40/60, 20/80. That tells you that they don't think there's any need to provide fine-tuned intermediate choices. They don't have a hundred funds, 80/20 and 79/21 and 78/22 and so on. They don't even have 70/30 or 50/50. Four sizes fit all.

That tells me they think you're smart enough to couple two of those funds together, in whatever proportion, to achieve any level (like 78/22). That way they don't have to manage 100 different funds for no reason. With the four funds, it's not too much of a headache for managing, a large amount of people will probably be fine holding one, and for those that want the additional fine-tuning can do it very easily too.

Of course, the person who was a 78/22 AA is not likely to buy the LifeStrategy funds to do so.

Regardless, the point is that Vanguard wants to maximize the number of people that only need to buy one fund (simplicity) while minimizing the number of funds they need to manage. Apparently, four funds is about right. And if you want somewhere in-between, you can just mix. Every one is happy.

I don't think it means that "four sizes fits all" or that a 70/30 isn't a good allocation because, otherwise, Vanguard would offer it. That's just not the right conclusion here.

[willthrill81]

Notice that Vanguard only provides four choice in the LifeStrategy funds: 80/20, 60/40, 40/60, 20/80. That tells you that they don't think there's any need to provide fine-tuned intermediate choices. They don't have a hundred funds, 80/20 and 79/21 and 78/22 and so on. They don't even have 70/30 or 50/50. Four sizes fit all.

That tells me they think you're smart enough to couple two of those funds together, in whatever proportion, to achieve any level (like 78/22). That way they don't have to manage 100 different funds for no reason. With the four funds, it's not too much of a headache for managing, a large amount of people will probably be fine holding one, and for those that want the additional fine-tuning can do it very easily too.

Of course, the person who was a 78/22 AA is not likely to buy the LifeStrategy funds to do so.

Regardless, the point is that Vanguard wants to maximize the number of people that only need to buy one fund (simplicity) while minimizing the number of funds they need to manage. Apparently, four funds is about right. And if you want somewhere in-between, you can just mix. Every one is happy.

I don't think it means that "four sizes fits all" or that a 70/30 isn't a good allocation because, otherwise, Vanguard would offer it. That's just not the right conclusion here.

I never said that 70/30 was a good allocation nor that Vanguard's four funds are in any way optimal. My point was that the type of person who is likely to desire an all-in-one fund is not the type of person who specifically wants a 78/22 AA, which we both know is unlikely to be meaningfully distinct from an 80/20 even over the long-term.

[Steve Reading]

Notice that Vanguard only provides four choice in the LifeStrategy funds: 80/20, 60/40, 40/60, 20/80. That tells you that they don't think there's any need to provide fine-tuned intermediate choices. They don't have a hundred funds, 80/20 and 79/21 and 78/22 and so on. They don't even have 70/30 or 50/50. Four sizes fit all.

That tells me they think you're smart enough to couple two of those funds together, in whatever proportion, to achieve any level (like 78/22). That way they don't have to manage 100 different funds for no reason. With the four funds, it's not too much of a headache for managing, a large amount of people will probably be fine holding one, and for those that want the additional fine-tuning can do it very easily too.

Of course, the person who was a 78/22 AA is not likely to buy the LifeStrategy funds to do so.

Regardless, the point is that Vanguard wants to maximize the number of people that only need to buy one fund (simplicity) while minimizing the number of funds they need to manage. Apparently, four funds is about right. And if you want somewhere in-between, you can just mix. Every one is happy.

I don't think it means that "four sizes fits all" or that a 70/30 isn't a good allocation because, otherwise, Vanguard would offer it. That's just not the right conclusion here.

I never said that 70/30 was a good allocation nor that Vanguard's four funds are in any way optimal. My point was that the type of person who is likely to desire an all-in-one fund is not the type of person who specifically wants a 78/22 AA, which we both know is unlikely to be meaningfully distinct from an 80/20 even over the long-term.

I never said you said "70/30 was a good allocation nor t...".

Actually nvm Will.

[vineviz]

This is, AFAIK, completely correct.

Style drift due to relative performance.

So it's not only individuals who make these investment errors, but investing professionals and their firms as well.

I disagree. All the TDF providers have discovered, through years of experience, that investors in those funds have turned out to be FAR less skittish than people originally assumed they would be.

Many of the earliest glide paths were engineered to be overly conservative because providers feared that investors wold bail out of the funds at the first sign of turbulence. That fear proved to be unfounded, for the most part, so many TDF issuers have slowly normalized the glide paths.

[AlohaBill]

What is most important is how much you invest from your pay check.
Pick a fund or two or three. When you experience a downturn, think about how you are feeling. Make adjustments. (There is way too much blather on asset allocation here. Try to learn who is giving advice here also.)
Again, how much money you put towards your retirement goals each paycheck is the key!
Finally, in my experience I found that I was able to increase my savings as my kids graduated from college.
This is a very good forum. Welcome!

[absolute zero]

Notice that Vanguard only provides four choice in the LifeStrategy funds: 80/20, 60/40, 40/60, 20/80. That tells you that they don't think there's any need to provide fine-tuned intermediate choices. They don't have a hundred funds, 80/20 and 79/21 and 78/22 and so on. They don't even have 70/30 or 50/50. Four sizes fit all.

That tells me they think you're smart enough to couple two of those funds together, in whatever proportion, to achieve any level (like 78/22). That way they don't have to manage 100 different funds for no reason. With the four funds, it's not too much of a headache for managing, a large amount of people will probably be fine holding one, and for those that want the additional fine-tuning can do it very easily too.

Of course, the person who was a 78/22 AA is not likely to buy the LifeStrategy funds to do so.

Regardless, the point is that Vanguard wants to maximize the number of people that only need to buy one fund (simplicity) while minimizing the number of funds they need to manage. Apparently, four funds is about right. And if you want somewhere in-between, you can just mix. Every one is happy.

I don't think it means that "four sizes fits all" or that a 70/30 isn't a good allocation because, otherwise, Vanguard would offer it. That's just not the right conclusion here.

I never said that 70/30 was a good allocation nor that Vanguard's four funds are in any way optimal. My point was that the type of person who is likely to desire an all-in-one fund is not the type of person who specifically wants a 78/22 AA, which we both know is unlikely to be meaningfully distinct from an 80/20 even over the long-term.

78/22 is obviously an extreme example, but I think the kind of investors that would be interested in 70/30 could definitely be the same investors that choose all-in-one funds. Sure, you may argue that they could just as easily hold a global stock and global bond fund (still 2 funds!) and achieve the same thing. But by instead mixing a 60/40 and an 80/20 fund to achieve their target, they would be able to virtually never rebalance. Even after several decades the allocation might only drift to say 72/38. That’s a pretty big advantage in my eyes.

[tibbitts]

This is, AFAIK, completely correct.

Style drift due to relative performance.

So it's not only individuals who make these investment errors, but investing professionals and their firms as well.

I disagree. All the TDF providers have discovered, through years of experience, that investors in those funds have turned out to be FAR less skittish than people originally assumed they would be.

Many of the earliest glide paths were engineered to be overly conservative because providers feared that investors wold bail out of the funds at the first sign of turbulence. That fear proved to be unfounded, for the most part, so many TDF issuers have slowly normalized the glide paths.

I'm not sure that's the entire story. I think that the current crop of managers having not seen a prolonged equity downturn is a lot of the influence. Admittedly that makes the growing international emphasis (not that I'm arguing with that) difficult to explain, but these guys grew up being taught Japan would take over the world. Maybe that's a difficult bias to overcome as well.

[vineviz]

I'm not sure that's the entire story.

What evidence do you have that tells you otherwise?

Many of the TDF managers have described exactly the “story” I provided, and there is copious data demonstrating exactly this phenomenon.

As far as I can tell, the “TDF managers are a bunch of reckless newbies” narrative was concocted by armchair Bogleheads “experts” attempting to rationalize their own recklessly conservative asset allocations.

In any case , TDF fund users are incontrovertibly “staying the course” more diligently than other retirement plan investors. And they have realized better risk-adjusted returns.

[willthrill81]

I'm not sure that's the entire story.

What evidence do you have that tells you otherwise?

Many of the TDF managers have described exactly the “story” I provided, and there is copious data demonstrating exactly this phenomenon.

As far as I can tell, the “TDF managers are a bunch of reckless newbies” narrative was concocted by armchair Bogleheads “experts” attempting to rationalize their own recklessly conservative asset allocations.

In any case , TDF fund users are incontrovertibly “staying the course” more diligently than other retirement plan investors. And they have realized better risk-adjusted returns.

That's my take as well. Even prior to the last bull market for stocks and doldrums that bonds are currently in, the historic data were pretty clear that 20+ year investment horizons should be 100% stock if the goal is maximum returns. And, as already noted in this thread, that's where pretty much all of the TDFs would be if regulations didn't prevent it.

[tj]

I'm not sure that's the entire story.

What evidence do you have that tells you otherwise?

Many of the TDF managers have described exactly the “story” I provided, and there is copious data demonstrating exactly this phenomenon.

As far as I can tell, the “TDF managers are a bunch of reckless newbies” narrative was concocted by armchair Bogleheads “experts” attempting to rationalize their own recklessly conservative asset allocations.

In any case , TDF fund users are incontrovertibly “staying the course” more diligently than other retirement plan investors. And they have realized better risk-adjusted returns.

That's my take as well. Even prior to the last bull market for stocks and doldrums that bonds are currently in, the historic data were pretty clear that 20+ year investment horizons should be 100% stock if the goal is maximum returns. And, as already noted in this thread, that's where pretty much all of the TDFs would be if regulations didn't prevent it.

The big question is what sub-asset classes of stock.

[totality]

If it weren't for regulations, most TDFs with a 'date' more than 20 years out would probably be 100% stocks.

What regulation prevents this? Is it something to do with what is allowed in a default 401k investment?

[willthrill81]

If it weren't for regulations, most TDFs with a 'date' more than 20 years out would probably be 100% stocks.

What regulation prevents this? Is it something to do with what is allowed in a default 401k investment?

The Department of Labor controls what is a Qualified Default Investment Alternative, which includes the following:

-A product with a mix of investments that takes into account the individual's age or retirement date (e.g., a life-cycle or target-retirement-date fund).

-A product with a mix of investments that takes into account the characteristics of the group of employees as a whole, rather than of each individual (e.g., a balanced fund).

-An investment-management service that allocates a participant's contributions among existing plan options to provide an asset mix that takes into account the individual's age, target retirement date, or life expectancy (e.g., a professionally managed account).

-A capital-preservation investment product designed to preserve principal and provide a reasonable rate of return, but only for a period of 120 days after the date of a participant's first elective contribution under Section 414(w)(2)(B) of the Internal Revenue Code ("Code"). Note, however, that at the end of the 120 day period, the product would cease to be a QDIA, and to continue to obtain relief under the regulation, the fiduciary would have to redirect such investment into another QDIA before the end of the 120 day period. This category provides a nearly risk free option that will preserve principal during the limited period when an employee is most likely to opt out of participation and request a return of his or her contributions.

https://www.jonesday.com/en/insights/20 ... ternatives

As such, 100% stock does not meet the definition of a QDIA.

[Silverado]

I'm not sure that's the entire story.

What evidence do you have that tells you otherwise?

Many of the TDF managers have described exactly the “story” I provided, and there is copious data demonstrating exactly this phenomenon.

As far as I can tell, the “TDF managers are a bunch of reckless newbies” narrative was concocted by armchair Bogleheads “experts” attempting to rationalize their own recklessly conservative asset allocations.

In any case , TDF fund users are incontrovertibly “staying the course” more diligently than other retirement plan investors. And they have realized better risk-adjusted returns.

You really should provide the type of evidence for your opinion you are expecting to be provided for the opinion you do not agree with.

I know for the Black Rock Target Date CIT in my work plan they increased equity in what looked to me to be a response to the bull market.

[nisiprius]

If the stock allocations of the lifecycle funds seem heavy to you, then learn why you're wrong.

Most lifecycle funds have too small an allocation to stocks, not too high an allocation. In other words, they've ALREADY made a compromise between investor perception and reality. There's no need to compound that error through personal intervention.

As you phrase this, I understand it to imply that there is an objectively correct risk tolerance, and that people who find the target-date funds too aggressive have a risk tolerance that is objectively too low. Do I understand you correctly?

[Steve Reading]

If the stock allocations of the lifecycle funds seem heavy to you, then learn why you're wrong.

Most lifecycle funds have too small an allocation to stocks, not too high an allocation. In other words, they've ALREADY made a compromise between investor perception and reality. There's no need to compound that error through personal intervention.

As you phrase this, I understand it to imply that there is an objectively correct risk tolerance, and that people who find the target-date funds too aggressive have a risk tolerance that is objectively too low. Do I understand you correctly?

Not quite. It means that even if you are exceedingly risk-averse, it is likely that a very high allocation to stocks through most of your accumulation both increases returns and lowers risk.

Your risk tolerance only affects the slope of the ramp down and the ending allocation in retirement. It has a very small effect on the optimal starting allocation. And by optimal, I mean both higher returns and lower risk.