Target-date funds have muscled into nearly half of Americans’ retirement savings as a painless way to build a long-term nest egg. But for some investors, the set-it-and-forget-it approach can be set it and regret it, especially when it comes to taxes and returns.
The funds have a seemingly simple sales pitch for ordinary savers: Game out when you’ll quit working for good, choose a fund closest to that year, then sit back while its riskier holdings automatically winnow as you near retirement and want more predictable income. Under that “glide path,” stock-heavy funds shift to bulking up on boring bonds and cash. A fund that’s 100% in publicly traded shares transitions from growth stocks to safer dividend companies. For investors unwilling to parse the choices on their 401(k) menus or rebalance to skew more conservative as they age, the option offers a hands-off approach to diversification.
There’s another glide path baked into the funds: the lateraling of decision-making, and avoidance of its behavioral pitfalls, to a portfolio manager. But sometimes, what seems smooth and easy isn’t.
Here are four pitfalls lurking in both paths.