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For some reason lately I’ve been getting a bunch of emails asking me what I think of a particular Target Date Fund, so I thought this would make a good article.
But before we get into what I think of these things (hint: It’s in the title of this article), let’s first talk about what these things are.
What is a Target Date Fund?
Target Date funds are also known as Lifecycle Funds, Age-based Funds, or Dynamic Risk Funds. That last one sounds makes it sound pretty cool, but basically what Target Date funds do is adjust your asset allocation as you get older and closer to retirement.
These funds typically have a year, or “Target Date,” in it’s name. The idea is that based on your age, you pick the fund with the year in which you will turn 65 and just buy that fund. So if you’re 20 right now in the year 2018, you would pick the fund with the Target Date 2018 + (65 – 20) = 2063, since that’s when you’d turn 65.
How the fund operates is that if the Target Date is really far away, the fund shifts most of it’s holdings towards equities. The Retirement Fund 2060 shown above, for example, has an 85% equity / 15% fixed income weighting. Then, over time as your Target Date approaches, the fund gradually rebalances your asset allocation towards fixed income. The Retirement Fund 2015 in that series, meaning this fund is for people who are already 65+, has an asset allocation of 45% equity / 55% fixed income.
So Are They Any Good?
Well, yes and no. Mostly no.
First of all, these things aren’t free. If you look back at that chart above, this particular fund provider charges around a 0.75% fee for running this fund. And as we’ve written before, over time fees can have a pretty massive impact on your portfolio growth. Given that a typical Vanguard Indexed ETF has fees less than 0.1%, you’re paying a pretty high premium on these things, and the only service you’re getting is basically rebalancing your portfolio for you once a year.
Also, it’s easy to catch Target Date fund providers doing sketchy things. You’d figure that once an asset allocation were decided based on age, Target Date funds would just buy Index funds to track each asset type and be done with it.
Some of them (actually, most of them from what I can tell) go the additional step of using actively managed funds to build their portfolios. Each of these funds also has a management team, and a marketing team, and compliance people, so these funds also have their own separate fee that’s quietly lumped into your bill. And surprise surprise, if actively managed funds are used, they are always run by the same company that’s running the Target Date fund. After all, they wouldn’t want some other company stealing your money, right?
These things typically charge 1-2% by themselves, so if you add that to the Target Fund’s MER, you’re looking at a total 2-3% fee that’s silently taken out of your account each and every year. You’re employing a team of dozens of people to do a job that a spreadsheet can do.
They’re Trivially Easy To Beat
The funniest thing about Target Date funds is that unlike Hedge funds (which you also shouldn’t buy), Target Date funds are required to tell you exactly what they own. It’s right there on the fund’s summary page or its prospectus.
This is the asset allocation for the Retirement 2060 fund. So, that’s 55% domestic (US) stocks, 30% International stocks, 8% Domestic (US) bonds, 4% International bonds, and 3% cash and other random crap. Right away, I’m thinking 3% cash? What? Why am I paying you to hold cash? But whatever, that’s a separate issue.
So here’s how to beat this fund. Just buy the underlying index ETFs yourself.
ETFs (and mutual funds) exist because it’s usually not practical for an individual investor to buy the underlying stocks themselves. To replicate an ETF tracking the S&P 500, I’d have to actually buy those 500 stocks myself. That’s a lot of work, and would require me to have at least a couple million dollars for it to be even possible (since you can’t buy fractional shares).
But for a Target Date fund? They’re just buying other ETFs. I can easily do that myself.
So for this particular fund, I’d buy the following:
|VTI||Total Stock Market ETF||55%|
|VEU||FTSE All-World ex-US ETF||30%|
|BND||Total Bond Market ETF||8%|
|BNDX||Total International Bond Market ETF||4%|
|CASH||Why The Hell Am I Holding Cash Again?||3%|
There. We have just replicated this fund’s asset allocation, and because we aren’t paying the Target Date fund’s 0.75% MER, we can expect my portfolio to beat the Target Date fund’s performance by 0.75% each and every year.
But what about the rebalancing the fund manager does each year, you might ask? You’re going to miss out on that!
Not really. Because the fund is required to update their prospectus each year, all I have to do is keep checking the fund’s website. They’ll tell you what their new asset allocation is, and then you can just rebalance your portfolio to match!
So what we’ve done here is, essentially, taken the hard (?) work of this bank-owned retirement fund, completely stolen it, and have replicated it for free. I have just robbed this bank, and completely gotten away with it!
Never pass up an opportunity to legally steal shit from Wall Street. Never.
Is There Anyone Who Should Buy It?
The only people who should buy one of these things are people who, for whatever reason, have to pay a really high transaction fee for each buy. Because buying this fund only requires one transaction rather than 4, theoretically that could save you money, but I’d argue these people should instead open up accounts at either Questrade or Vanguard, which allow free ETF purchases.
The only other time it makes sense to own one of these is if you have a really low amount to invest (like less than $100) and you can’t effectively replicate their asset allocation because you can’t buy fractional shares of ETFs. Though in that case, I’d say just wait a little longer until you have more money. Or buy the Target Date fund temporarily, and when you have more then jump out and replicate yourself.
But the real target audience of these funds are Convenience Shoppers. Just buy this fund, the banks say! It’s a one-stop solution for all your investment needs! And then you don’t have to think about it anymore!
I have another name for Convenience Shoppers: Incredibly Stupid and Lazy People. The difference in work is clicking 4 times once a year instead of clicking once. They’ve already done all the work for you! Just steal it! Steal their work!
But I guess if you’re Too Stupid and Lazy and just want the banks to take your money, then I guess these things make sense for you. Though I would argue if you’re that Stupid and Lazy, you probably don’t deserve to become FI.
So that’s my take on Target Date funds. I suspect I won’t be getting many advertising offers from them any time soon, but who gives a shit. We’re here to tell the truth, not make money that we don’t need.
What do you guys/gals think? Can you think of a scenario in which Target Date funds makes sense? Or are they just for Stupid and Lazy People? Let’s hear it in the comments!
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