Whenever I look at a friend’s investment statement there are four things I always look for and often find. They are: 1) what type of diversification has their current advisor created for them?; 2) are there any “target date funds” in the mix of investments they are using?; 3) are there any high-cost mutual funds that could be replaced with similar low-cost index mutual funds and/or low cost ETF solutions and 4) what are their total annual costs for fees, services, trading and other management costs that might not jump out unless they were added up and presented as a dollar amount and a percent of the total investment portfolio? Far too often I find all four have been done poorly. By that, I mean they were done for the advantage of the advisor and his firm, not in the best interests of the client.

Now I realize I’m assuming the person who is receiving the services does not understand what they are receiving (they haven’t) or the costs associated with the solution provided (they never do). I’m also assuming the provider did not offer lower-cost solutions. I don’t know if they had choices, but I suspect not. What I often hear is “I didn’t understand what they were saying, but they seemed smart, so I signed the forms.”

That brings us to Target Date Funds. Most do not understand them. A target date fund is a mutual fund or an ETF designed so its portfolio strategy evolves as a person grows older and a retirement date is reached. The target date is listed in the fund’s name. For example, the Fidelity Freedom® 2020 fund (FFFDX) is designed with a target date of 2020. If you were planning to retire in 2020 you would be encouraged to invest in this fund. Of course, there are similar funds for 2025, 2030, 2035, 2045 and so on.

A recent AAII article said this, and I agree that this appears highly likely: “The premise of a single fund that fulfills an investor’s needs is appealing, but the simplicity of the pitch veils the underlying complexity and volatility of these funds. In 2008, target date funds were criticized for incurring larger losses than investors perceived they would incur. Four years later, a study by ING found that a large number of investors still don’t understand the very basics of target date funds (“Target Date Funds Misunderstood,” April 2012 AAII Journal.) According to the study, just 44% of investors surveyed knew that a target date fund’s allocation is designed to automatically change over time.” – Target Date Funds: A Simple Premise, but Underlying Complexities, AAII Staff, July 03, 2019.

After I explain the nature of a Target Date Fund to those I train, none of them has wanted to stay with the fund recommended by their advisor. The reason is simple. If they are young, there are far better and less complex and lower-cost options to build a retirement nest egg. If you want to know more, just ask. Here is a clue: the Fidelity Freedom® Fund 2020 is 12% cash, 40% bonds, 26% US stocks and 22% international stocks. If you think you will live another 25-30 years in retirement (and you might) then this is a disaster waiting to happen.