00:06

Stephanie McCullough: Welcome to Take Back Retirement, the show for women 50 and better, facing a financial future on their own. I’m Stephanie McCullough, and along with my fellow financial planner, Kevin Gaines, we’re going to tackle the myths and mysteries of “Retirement,” so you can make wise decisions toward a sustainable financial future. Through conversations and interviews, you’ll get the information and motivation you need, to move forward with confidence. And we’ll be sure to have some fun along the way. We’re so glad you’re here. Let’s dive in.

00:39

Kevin Gaines: A frequent theme on this show is one size does not fit all. Everybody’s situation is different. However, your employer, and your 401k, and your college savings plans are telling you that one size does fit all. So today, we’re going to explore who’s right.

00:59

Stephanie: Target date funds. Is it really set it and forget it? – On this episode of Take Back Retirement. Coming to you semi-live from the beautiful Westlakes Office Park in suburban Philadelphia, this is Stephanie McCullough and Kevin Gaines of Sofia Financial and American Financial Management Group. Say hello, Kevin.

01:20

Kevin: Hello, Kevin. 

01:22

Stephanie: Kevin and I have been around in this industry long enough to remember a time before these things called target date funds. And in fact, early on in my career, I was working with retirement plan participants. This is where we see these types of funds most often. So, in the old days, for example, when I used to walk up and down the halls of a hospital, helping employees understand their 403b plan, which is basically the nonprofit version of a 401k, the default option for people who neglected to choose a mutual fund in their enrollment forms, the default option was the money market account, which is basically like a savings account, which as we know right now was not paying very much. And there was a lot of pushback among the industry, people and researchers saying, ‘Hey, you know what employers, you’re not really doing very well by these employees, if you’re sticking them in the money market, because that’s not going to grow for their long-term future.’ So, there was this innovation called target date funds. So, Kevin, what the heck is a target date fund?

02:29

Kevin: A target date fund is this really cool, neat way to invest money that can never possibly hurt you. Or at least that’s how it was billed to us at the time when they started rolling these things out. But the idea is, as you were saving, the younger you are, you want to be invested a higher percent of your dollars in stocks than in bonds. And as you get older, closer to retirement, or even in retirement, you want to own more bonds than stocks. Well, here’s the problem for a lot of people saving for retirement, especially in 401ks: they don’t pay a whole lot of attention to that. 

03:14

Stephanie: Well, come on, how can you blame them? In the old days, there was a list of 50 funds that had names that made no sense. Nobody knew what the heck they were, much less how to do asset allocation. 

03:25

Kevin: Oh please, I love looking at those lists. I could sit there and stare at them for hours and come up with all weird, wacky combinations.

03:31

Stephanie: But that’s you. That’s not a normal person, a non-investment geek.

03:40

Kevin: That’s right. I’m not normal. And yeah, I mean, it was overwhelming. All the different investment options, because I mean, think of it from an employer’s perspective. They want to help their employees save. So, we’re giving them all these options. We’re letting them pick what they want. And they can go from there. Because they know everybody’s different. They’re going to make wanted to have different choices. The reality is, most people aren’t, they’re going to go for whatever is simple, that they can understand it doesn’t get intimidating. And picking 50 funds can be intimidating.

04:21

Stephanie: Yeah, and you know what I used to give those group enrollment meetings. So, if you, listener, have ever sat in one of those meetings, where the representative for your 401k plan or 403b plan tries to explain to you what’s going on, that used to be me. Feel sympathy for me, I used to try to make this stuff understandable. And the advice was always ‘Hey, participants in this plan, you should really diversify. Yeah, you should own some stocks and bonds, but you should own different types of stocks and different types of companies and different types of bonds.’ And then people’s eyes would glaze over, and they start making their grocery list, like come on. It was expecting a lot for the general public, who has no interest or background in investments to pick their own allocation. So, the innovation was that the industry said, ‘You know what, maybe we can do this for people.’ So, they came up with this thing, which is what we call a fund of funds. It’s a single mutual fund, that is actually made up of a bunch of different mutual funds inside of it. So, it’s like, when you look at the title of it, it’s got one title. And the key trick to know is that they always have a date in the title target date, right? So, the idea is that the date is somewhere around when you might be retiring. So, they might have dates every 10 years or every five years. But they’re going to come up with a single fund that maybe has, say, eight or 12 different mutual funds inside of it pre-mixed already for you, prepackaged. And as Kevin was saying, more stocks, when you’re farther away from that target date, more bonds when you’re closer to it.

05:54

Kevin: So, it does work that, okay, fine, it’s going to as you get closer to retirement, it’s quote unquote, de-risking your allocation because most people don’t…

06:05

Stephanie: That’s a jargony word ‘de-risking.’ Define.

06:09

Kevin: Don’t ask me to spell it. So, the idea is, as you get closer to retirement, you want to take less risk, because if things go south, you have less time to recover. market goes down 50% When you’re 23, who the hell cares? So, you got another 20, 30 years for the market to recover. Market goes down when you’re 63, that’s pretty freakin terrifying for just about anybody, us included. So, we did that for you, because they found a lot of times that people would set up their allocation. And it may have been well thought out and researched at that moment. But then, you know, life happens, people forget to adjust. And next thing, you know, you’re 63 years old, and you have 100% of your retirement savings in stocks.

07:04

Stephanie: Which might be less than ideal.

07:07

Kevin: It’s a good thing if the stock market keeps going up. But yeah, doesn’t always play out that way.

07:12

Stephanie: We’re sitting here in mid 2022, we have been reminded that the stock market does not always go up. So, the two innovations of the target date funds were you only had to pick one fund anymore. And it was going to change automatically as you got closer to retirement.

07:28

Kevin: And another advantage of or another benefit from this was rebalancing. So, it’s all well and good that you have this allocation of stocks and bonds. But arguably, stocks go up a lot more than bonds. And next thing you know, instead of having 50 or 60% stocks, because stuff went up, all of a sudden, you have 80% stocks or 90% stocks.

07:59

Stephanie: And then you’re taking more risk than you realized. 

08:02

Kevin: And you’re taking a lot more risk than you realize. So that rebalance just sets everything back to where you want it. Coupled with the glide path you’re rebalancing as you’re getting more and more conservative as you’re approaching retirement.

08:16

Stephanie: So, we’ve been focusing mostly on retirement plans. And that’s most often where we see target date funds. But I do want to mention, and Kevin did mention that in a 529 plan, which is a tax advantaged college savings plan, each state runs their own, there are particular investment options in those. And quite a few of those plans do also have a similar type of option. Sometimes it’s called an ‘enrollment-based option.’ Or basically, it’s got a date in the name, which should be somewhere close to the date, your kid first goes to college. So again, that’s going to have a similar idea, you pick one fund, it’s going to change and get less aggressive, more conservative, as you get closer to the date you got to write that first tuition check. 

In my opinion, target date funds are ideally suited for people who are a long way from retirement. You’re in what we call in the industry lingo, the ‘accumulation phase,’ you are adding to your account each paycheck, you’re putting money in, you don’t have to worry about picking a bunch of different mutual funds, you don’t have to worry about adjusting it as it goes forward. There’s been research showing that more people are invested. Fewer people are in kind of the conservative or the money market option since target date funds have come onto the scene. The nice thing is it’s good behavior built in. We always say diversify broadly, and then rebalance and don’t worry about it, don’t stress it. If you look at your statements or log on to your account, because you’re not seeing the performance of the individual components, those mutual funds that make up the fund of funds, you’re not seeing oh my gosh, the small cap it’s down 38%, you’re not going to freak out, right? The whole fund itself is going to be the performance of that is going to be a composite of the performance of the individual pieces. So, there is always something that has done more badly and something that has done less badly. In a target date, you don’t see those inner workings, because it’s just a single price, a single performance, which can have good behavioral consequences.

10:28

Kevin: It’s, you know, to use the old Hitchhiker’s Guide to the Galaxy reference, don’t panic, this helps you not to panic. And, conversely, you’ll probably have better performance, because you’re not jumping out and sitting in cash for weeks, months, years on end.

10:50

Stephanie: I think. So, think of the burden is less on the individual employee or participant to be picking these things. Like, hey, it’s Vanguard, or Principal or Fidelity, whoever does this fund. They’re picking they have experts in there, they’re going to do it for me, I can rest easy. So, I think that is a good component of target date funds.

11:10

Kevin: Now, that’s the good, but there are some bad. Let’s be honest, nothing’s perfect. I know Stephanie, this especially with you, you like to talk about the one bad thing, which is disbursements.

11:30

Stephanie: When you get to the point where you’re close to or taking money out of your account, that’s when I personally think target date funds fall down a little bit, they’re not as helpful. And there’s really two pieces of that, right. One is that let’s say I’m now a year and a half out from retirement. And believe me, remember, the name of our podcast is Take Back Retirement, we know there’s a lot of different definitions of that term. Retirement means very different things to different people. But let’s use that word to mean the date you’re going to start taking money out of this account, you’ve been saving into your 401k, your 403b. So, if you’re a couple years out from that, it’s no longer the case that this whole pot of money is long-term money, some piece of this money is now short-term money, right? We’re talking within a few years. If you’re going to be starting to take money out in a couple of years, that money you’re going to spend in year two and year three should be treated differently than the money you’re going to spend in year 15 and year 20. But a target date as we said a target date fund is one fund. So, if you only have one fund in your account, you can’t distinguish between the short-term money and the long-term money.

12:49

Kevin: And that simply means the money you’re about to take is invested a lot riskier, then you probably should, you’re about to take money out for a wedding, for a trip, for your monthly bills, you really don’t want the market to decide, Hey, let’s go down 15%, just because the day ends and why or for whatever reason, all of a sudden is our cheese. Now I’m taking a bigger percent of my account out for this particular need. And so that’s why we talk about segregating the money for when you’re going to need it a lot, because if it bites you, it can bite hard.

13:29

Stephanie: Well, and that’s the other problem with the target date funds. Again, because it’s only one mutual fund, even though it’s made up of say 12 individual mutual funds, you own one mutual fund. So, if you want to produce some cash, and you need to pay some bills, and you need to take some money out of your plan, if you own a target date fund, the only way to get cash is to sell some shares of that fund. But that fund owns all the 12 funds inside of it. And remember, we said some of those might be down more, some of them might be down less. So, it’s my firm belief that when you get closer to needing to take money out, you should sell the target date fund, even if you own those exact same individual components, right, which you might not be able to do in your 401k plan. You might have to do this in an IRA or adjust your funds. But let’s say theoretically, you could own exactly the same individual components that make up that fund of funds. To me, that’s a better situation when you’re taking money out of your account. Because then you can say, I need to take out $5,000 I’m going to sell this fund, this individual fund right here, maybe it’s the bond fund that’s down less than the other things. Maybe there’s a Treasury bond fund in there, who knows what it is, but you can pick what to sell to come up with your cash and you’re not going to sell the small cap stock fund because that’s down the most. If you own the target date fund, you don’t get to choose.

14:58

Kevin: This is something that that most financial planners and advisors do with their clients when the time comes to take money. What is down the least amount? Or what’s gone up the most? We were talking to good investment year and your small cap fund has gone up 100%. That sounds weird. Sometimes that does happen, you can find these types of returns, well, yes, sell that. Take it off the top you rebalance. And you’re selling your winners, and you’re leaving those slower growers alone, there’s, hey, you catch something, right, take advantage of it. I mean, the important thing is when we’re talking about taking money from your savings when you’re starting to take disbursements is we want to be flexible and smart about how we take in the money coming in. 

But there are a couple other little details to know about target dates, the most important one, and we get this question a lot. There is no law or regulation saying, because you turn 65 in 2040, you have to pick the 2040 fund. You can pick whatever option is going to work for you. Or if you wanted to try to be clever or cute and pick two of them, because I’m going to retire in 2043. So let me get some 2040, 2045. There’s an argument that you’re overthinking that, because these are all just best guess estimates anyway, the difference won’t be too dramatic between the two. But you can. But it’s when you think you’re going to start drawing on the money. Not, oh, I turned 65 so, I have to start doing this. You could be 60 years old and pick a 2070 fund if you want. If that’s part of your overall strategy. I mean, that’s the other thing to look at is how these fits in with everything else that you’re doing.

17:09

Stephanie: And remember, 65 is kind of an outdated retirement date, Social Security full benefits don’t kick into age 67. Please see episode number 15.

17:20

Kevin: And to drag this out even further, you can change the dates as well. If you realize, hey, you know what, I’m going to keep working longer. Let me extend it. Once you get into this fund, you’re allowed to change it just like any other investment option in your 401k. You’re not committed to this date.

17:40

Stephanie: And in fact, if you get to the point where you’re realizing some of this money might be short term money, you can say, I’m going to take 30% and move it into something more conservative, for example, just because it’s designed to be a one fund for your whole plan doesn’t mean you have to pick just the one fund.

18:00

Kevin: But at the same time, don’t think, because I’ve had this conversation with clients before, getting the 2050 fund, and then the 2070 fund, you’re not diversifying. We hear that from time to time, oh, well, I don’t, I don’t want to put all my eggs in one basket. Right, this gets back to the advantages of the target date fund is it’s not all your eggs in one basket, you get in a diversified portfolio, you’re just not having to sit there and going through the laundry list of options to pick which ones you want to do.

18:33

Stephanie: And to expand on that, right, the 2050 and the 2070, if those are the two numbers you just used, I’m not sure they’re made up of the same components. They’re made up of the same pieces. We’re talking about fund of funds, the 2050 has the same funds as 2070, just in a different mix. And in 20 years, the 2050 is going to look like the 2070 fund did today. Because there there’s something called a glide path, which shows and it’s a visual, we can put a generic one in the show notes. So, you can see it’s a visual showing, based on how far out you are from the target date, meaning the day you think you’re going to retire. It’ll show the mix of stocks and bonds and how that adjusts within the target date fund as you get closer to retirement. So, let’s say you’ve got the 2050 fund and the 2070 fund, they’re made up of the same pieces so that if you’re looking at the 2050 fund today, 20 years from now, the 2070 fund, they’ll still have the name 2070 on it. But it’ll look like the 2050 fund does today, because you’re that much closer to the date. So, all the funds are following the same path. They’re at just different at different points on that path, right made about the same components, different mixtures. But Kevin, one of the interesting things is that not every mutual fund company that has a series of target date funds has the same belief about what you should own when you get to that date.

20:05

Kevin: Right? You’re going to probably be still about 30% stocks, even when they switch, because at some point, they’re going to switch their name from the year to retirement income is typically the most common phrase used. And that’s when they’re saying the glide path is done. It’s not going to change from here on out anymore. But it’s still going to have some stocks, mostly bonds. But everybody, every company defines that a little bit differently.

20:36

Stephanie: So, what’s the takeaway here? I think it’s basically the same takeaway we say every time, the key thing for you to do is to get clear on the purpose of your money. And of course, your money has multiple purposes. But what is each bucket of money designed to do? If you have a target date fund, if you own one, and you’ll know by the having that year, in the title of the fund, look at that maybe you chose it years ago? Does it still match what the job of that bucket of money is? Maybe that job has gotten different? Or maybe it’s just a lot closer to when you’re going to need it? And that’s when it deserves a little bit of reevaluation?

21:16

Kevin: Yes, I mean, that’s pretty much it in a nutshell target date funds are not the absolute silver bullet that will solve all your retirement needs. But it is a great way to save without becoming overly complicated. So don’t fear it. But don’t assume that it’s going to solve all your problems either.

21:44

Stephanie: It’s not fix it and forget it forever.

21:47

Kevin: So, one size may not fit all for all of eternity, Stephanie, would you say that?

21:53

Stephanie: I think I would say that. Great. Thanks so much for being with us. We’ll talk to you next time. It’s goodbye from me.

22:01

Kevin: And it’s goodbye from her.

22:05

Stephanie: Be sure to subscribe to the show and please share it with your friends. Show notes and more information available at takebackretirement.com. Huge thanks for the original music by the one and only, Raymond Loewy through New Math in New York. See you next time.

22:20

Disclaimer: Investment advice offered through private advisor group, LLC, a registered investment advisor. Private advisor group, American Financial Management Group, and Sofia Financial are separate entities. The opinions voiced in this material, are for general information only and are not intended to provide specific advice, or recommendations for any individual security. To determine which investments may be appropriate for you, consult your financial advisor, prior to investing. This information is not intended to be substitute for individualized tax advice. Please consult your tax advisor regarding your specific situation.