Reader Erik asked me to write something about Vanguard’s Target Retirement funds, LifeStrategy funds, and mixing the component funds yourself.
Target Retirement Funds
These funds are designed for investing for retirement. They invest in a handful of other broadly diversified funds. Vanguard has 12 of them, from Target Retirement Income designed for folks already retired to Target Retirement 2060 for young’uns under 20.
The signature trait of these Target Retirement Funds is the glide path. Vanguard explains it very well in this video. Their experts already figured out what the allocation should be at what point in time. You just pick the year you will retire and your asset mix in the fund will automatically rebalance and adjust as years go by.
The Target Retirement funds will stay flat at 90% in stocks until 25 years from the target year. Then it will start sliding down gradually to 50% in stocks until the target year, and continue sliding down to 30% in stocks until seven years after the target year.
The downside of this one-size-fits-all approach is that it doesn’t take into consideration other factors. Two people planning to retire in the same year can be very different in their risk tolerance, savings rate, the amount they already saved up, etc.
Still, if Target Retirement funds are my only options, I would be comfortable using them.
Vanguard also has four LifeStrategy funds, ranging from LifeStrategy Income with 20% invested in stocks to LifeStrategy Growth with 80% invested in stocks. They invest in more or less the same component funds as the Target Retirement funds.
These are called target-risk funds because they target a risk profile. Unlike in Target Retirement funds, the asset mix in a LifeStrategy fund does not change over time. They don’t have a glide path.
The LifeStrategy funds allow you to fine-tune your asset allocation a little bit and design your own glide path, taking into account your risk tolerance, savings rate, the amount you already saved up, etc.
You can blend two LifeStrategy funds to achieve any mix between 20% in stocks and 80% in stocks. For example if you want 75% in stocks you just mix 3 parts LifeStrategy Growth (80% in stocks) with 1 part LifeStrategy Moderate Growth (60% in stocks).
It’s more work than simply picking a year, but not really that much more work. Again, if LifeStrategy funds are my only options, I would be comfortable using them.
Both the Target Retirement funds and the LifeStrategy funds are pretty transparent in their recipe. If you take a look at what they invest in, you can easily copy them and make small tweaks.
If you don’t like the newly added international bond fund in the Target Retirement funds and the LifeStrategy funds, you don’t have to include it in your mix. If you want to replace the taxable bond fund with a muni bond fund for your taxable account, you can do that too. You can rebalance less frequently, by 5% bands if you prefer. When you mix your own, you get to invest in the lower-cost Admiral shares of the component funds, saving about 0.1% in expenses every year.
One potential problem with a DIY mix is that now you see clearly the performance of the individual components. When stocks do poorly, you see your stock fund doing poorly, even though your bond fund may be doing well. This may make you want to do something about the poorly performing component, whereas it’s all blended together in a Target Retirement fund or LifeStrategy fund.
If you can avoid the pitfall, a DIY mix is easily doable. You just take a look at the Target Retirement mix once a year and make your small adjustments from there. I currently do my own mix.
It’s like salad dressing. You can buy premixed dressing in a bottle, mix from two bottles from a store, or make the dressing yourself to your own taste and save a little bit of money too. They all work.
[Photo credit: Flickr user daftgirly]
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