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With baby boomers and their billions of dollars racing toward retirement, mutual funds geared specifically for them are among the fastest growing in the industry.
They're one-stop funds -- designed to be able to stand alone in a portfolio -- and typically marketed as investments appropriate for a person planning to retire in a specific year. There are 2010 funds, 2020 funds, etc.
Even if the simplicity that target-retirement funds offer appeals to you, however, they're not quite that simple to live with. Even the best of them, the T. Rowe Price suite, expose you to a serious hidden risk -- outliving your money -- to combat the less-serious risk that you will lose principal along the way.
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Ours is a risk-obsessed age. Expectant American mothers shun the occasional glass of wine that doesn't seem to be harming European babies. Grown men wear helmets to ride bicycles. So fund companies are selling wheelchairs with seat belts to the least likely generation in American history to need them.
Actuarial adjustment
Fortunately, there's a simple solution. Add five to the expiration date on the label. If you plan to retire around 2010, buy a 2015 fund. The negligible risk to your principal that you will incur is more than compensated for by the higher returns you'll require for the additional years you can expect to live.Also, don't assume that all target-retirement funds are alike. They most definitely are not. Over the last three years, the average target-retirement fund in the Morningstar database has delivered annualized returns of 9.8%. You can do better.
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Morningstar limits its target-retirement Analyst Picks to only two fund families, T. Rowe Price and Vanguard. I would add a third, Fidelity. Its funds are very competitive in design and performance, and they are more widely available in 401(k) and other retirement plans than those of its rivals.
Of these, I think the T. Rowe funds are the very best, and I'll show you why I think that.
Let's begin by examining the shareholdings of each firm's 2010 and 2015 portfolios.
| Domestic stocks | Foreign stocks | Bonds | Cash | |
|---|---|---|---|---|
2010 funds | ||||
T. Rowe Price Retirement 2010 (TRRAX) | 50.1 | 12.3 | 30.4 | 6.6 |
Vanguard Target Retirement 2010 (VTENX) | 43.1 | 10.7 | 44.0 | 1.6 |
Fidelity Freedom 2010 (FFFCX) | 42.6 | 10.3 | 42.5 | 4.6 |
2015 funds | ||||
T. Rowe Price Retirement 2015(TRRGX) | 55.2 | 14.6 | 24.0 | 5.6 |
Vanguard Target Retirement 2015 (VTXVX) | 50.1 | 12.5 | 35.1 | 1.5 |
Fidelity Freedom 2015 (FFVFX) | 46.3 | 11.4 | 39.8 | 2.5 |
Notes: Totals may not equal 100%; balance is "other." As of Sept. 12, 2007. Sources: Morningstar, Fidelity Investments |
What leaps out to me is that T. Rowe's portfolios are significantly different than those of its rivals, which are remarkably similar to each other. That, by the way, represents an important shift on Vanguard's part, because until recently it was way too conservative. By at least coming up to Fidelity's level by boosting exposure to stocks, including foreign stocks, it has significantly boosted its returns.
Continued: Aging and losing a step