Market volatility hasn’t been kind to retirement accounts, even those invested in target-date funds retirement savers and retirees alike use to automatically adjust their exposure to risk.
Target-date funds are mutual funds or exchange-traded funds geared to a certain maturity date, often an investor’s approximate retirement date. They contain a mix of investments that are structured to be riskier at inception, and automatically shift to become more conservative near the time of maturity. They are very popular in 401(k) and IRA accounts, are often the “default” investment option in employee retirement accounts, and are considered to be something an investor can “set and forget,” since the rebalancing happens automatically.
For retirees or near-retirees with 2020 target-date funds who may have anticipated their portfolios to be somewhat protected because of the automatic adjustments, the recent market volatility, which has punished stocks and bonds alike, may be a cause for concern.
After all, many Americans rely on Social Security and any retirement savings they have accumulated through their careers to fund the rest of their days.
“It’s not a matter of ‘if,’ it’s a matter of ‘when’ we have these instances,” said Chris Mellone, a certified financial planner and financial adviser at VLP Financial Advisors, who said he prepares his clients for the downturns even when everything is looking good, like in the fall of 2019. “It is never going to be perfect.”
Right now, investments are looking far from perfect. The S&P 500 index
is down 17.52% year-to-date, while the Dow Jones Industrial Average
dropped 13.45% and the Nasdaq Composite Index
declined 26.41% during the same time frame.
Funds for recent retirees, such as 2020 target-date funds, have also suffered – regardless the fund provider. To name a few: the Fidelity Freedom 2020 Fund
is down about 13% year-to-date; the Invesco Peak Retirement 2020 Fund
saw a nearly 11% year-to-date decline; JPMorgan SmartRetirement 2020 Fund
fell 12% year-to-date; the year-to-date drop for Transamerica ClearTrack 2020
is about 13%; and the Vanguard Target Retirement 2020 Fund
declined around 12% year-to-date.
Asset allocations for 2020 target-date funds vary by provider but hover around a 50-50 mix for equities and fixed income. Exposure to risk is important in retirees’ portfolios, as they need that money to generate returns for the decades left in retirement. Still, it can be scary to see when the market is volatile.
Investors choose target-date funds if they’re not interested in the do-it-yourself approach or perhaps don’t have a financial adviser to build out a portfolio for them. But target-date funds are not a surefire way to protect against volatility, even if they are automatically adjusted to take on more conservative investments as the years go on.
“It’s like being on a passenger jet,” said Wheeler Pulliam, a certified financial planner and founder of Xponify Financial. “Everyone is fine walking about the cabin when the plane is cruising along on autopilot at 36,000 ft. But when turbulence happens, no one’s running around carefree anymore and everyone wants to hear what the pilot has to say about things then. Unfortunately, the nature of passive investments doesn’t allow for any major changes during turbulent times like today.”
A portfolio invested in a target-date fund might also not be appropriate for near or current retirees.
“A target-date fund makes great sense when you’re starting your working career and are undecided about what to do,“ said Erika Safran, a certified financial planner and founder of Safran Wealth Advisors. “Sometimes you just don’t know what you don’t know.” As investors get older, save more for retirement, earn a higher salary and prepare for their old age, target-date funds may no longer serve them, she said.
This is because so many factors change between the beginning of one’s career and the end, Mellone said. Painting a portfolio with a broad brush at the start of a career by using a target-date fund is understandable – these portfolios are heavily invested in equities, and young investors’ investments can weather the volatility they’ll inevitably face in the three or four decades to follow.
Retirees, on the other hand, have various different financial needs and goals, depending on if they plan to move, how much they intend to spend in retirement, if they’ll be earning any additional income or what expenses they have in old age. These timelines, needs and goals will affect what constitutes an appropriate asset allocation – for many, a simple 50-50 breakdown just won’t do.
Now isn’t the time to make any drastic changes, but those who feel they need to make an adjustment should discuss this plan with a financial professional, or proceed with caution. Changing a portfolio just to change it in times of turmoil isn’t prudent, however if it was a tweak that should have been made months ago and someone was avoiding it because of market volatility, it’s not wrong to do so now, Safran said.
“One would have said it was too late three months ago, and now we are pretty much worse than we were three months ago,” Safran said. “Is it too late? That’s the big question. My response to that is going to be the same as it is in real life. If it is something you should have done and haven’t done, go ahead and do it.”
Investors may also want to rebalance their portfolios, which would restore a portfolio to its original asset allocation. Portfolios tend to shift over time, especially during volatility, becoming over- or underweighted in equities or fixed income. That shift can become problematic for an investor if the new portfolio mix doesn’t align with investors’ needs and goals.
Retirees should also build out a cash reserve, equivalent to one or two years’ worth of expenses, to avoid withdrawing from the market when it’s volatile, Safran said.
But in the midst of what feels like a chaotic time for investors, it’s important to keep a portfolio with a 2020 target-date fund in context with the rest of the market.
“Everything is down,” Pulliam said. “Right now, there is no sector where there’s a positive return, so you can’t time the market. Just stay the course.”