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Target-date funds have become very popular due to their simplicity and convenience, surpassing $4 trillion in assets in 2024 as more investors opt for a “set-it-and-forget-it” approach to retirement planning.
But are they the right fit for your retirement goals? After all, a one-size-fits-all approach is rarely a good fit for everyone. Below, we’ll explain what target-date funds are, how they work, and what their pros and cons are.
Key Takeaways
- Target-date funds offer a simple, low-cost way to invest for retirement with automatic rebalancing.
- Target-date fund assets reached $4 trillion in 2024, and surpassed mutual funds as the most popular investment vehicle.
- Their one-size-fits-all design and sequence-of-returns risk may not be suitable for every investor, given that the average equity allocation at the target date is 44%, posing a sequence-of-returns risk.
- Pairing target-date funds with other accounts or exploring alternatives like all-in-one ETFs can make them better tailored to individual needs.
What Is a Target-Date Fund?
A target-date fund is a mutual fund or exchange-traded fund (ETF) that automatically adjusts its asset allocation based on a targeted retirement year. Following a predetermined “glide path,” the fund begins with a more aggressive allocation, typically heavily weighted toward equities, and gradually shifts to a more conservative mix of bonds and cash as the target retirement date approaches. For example, the allocation might shift from 60% stocks 30 years before retirement to 20% stocks after retirement.
Who Can Benefit Most from Target-Date Funds?
Beginning investors: Because target-date funds offer a “set-it-and-forget-it” approach, they are especially appealing to novice investors who are comfortable giving up control over day-to-day investment decisions.
Young investors are also more likely to hold target-date funds, largely due to automatic enrollment in their 401(k) plans. According to research by Vanguard, in 2023, 98% of retirement plans that had designated a Qualified Default Investment Alternative chose a target-date fund.
Retirees: Research by Morningstar showed promising results for target-date funds. Even the lowest-performing funds in their survey delivered significantly less peak-to-trough drawdown during the first quarter’s market volatility compared to the S&P 500, ensuring protection of a retiree’s savings.
Low-fee cost, passive investors: According to Morningstar, target-date funds reached a record $4 trillion in assets in 2024. This strong growth has been fueled by the low-cost structure of the funds and the increasing popularity of passive, index-based strategies. As assets surged, fund companies have opted to compete on price, with the average net expense ratio dropping to 0.29% in 2024 from 0.55% in 2015.
The Risks and Drawbacks of Target-Date Funds
One size fits all: Because they are primarily structured around a retirement date, target-date funds follow a one-size-fits-all approach that does not consider individual circumstances. To help offset this limitation, investors can use a target-date fund within a 401(k) while supplementing it with additional accounts, such as a Roth IRA, and maintaining an emergency savings fund as part of a more comprehensive, personalized financial plan.
Sequence-of-returns risk: Where investment losses early in retirement are compounded by portfolio withdrawals, this can significantly reduce the longevity of retirement savings. Many target-date funds will maintain an equities allocation of up to 60% at retirement age, which may be high for more conservative investors.
On the other hand, because compounding often results in proportionally greater gains in later years, a glide path that’s too conservative may limit growth potential and increase the risk of a retirement shortfall.
Alternatives to Target-Date Funds
Alternatives to target-date funds include robo-advisors, DIY portfolios, and professionally managed accounts. For those who prefer a low-cost, passive approach while tailoring their investments to their unique circumstances, one option is to look at an all-in-one ETF, a diversified fund that automatically allocates across multiple asset classes based on a target risk level, providing a simple, hands-off solution.
The Bottom Line
Target-date funds offer a convenient, low-cost, and increasingly popular option for retirement planning, especially for beginners and passive investors. However, their one-size-fits-all structure and exposure to sequence-of-returns risk mean they may not suit every investor. A balanced approach, pairing a target-date fund with other accounts or exploring tailored alternatives, can help ensure a more personalized retirement strategy.
