Bad Timing? Stock Allocations of Target Date Mutual Funds

The fastest-growing feature in 401(k) plans in recent years is the target date mutual fund. These are diversified funds. The fund sponsor adjust the asset allocation based on how close the shareholders are assumed to be to retirement age. For example, a 2050 target date fund assumes the shareholders will retire in 2050. It will be mostly in stocks and other growth assets today and gradually increase its holdings of bonds and other less volatile assets as the years go on.

The fund sponsors also change their asset allocations based on changes they perceive in valuations, the long-term return outlook and other factors. In what could turn out to be a spectacular case of bad timing, over the last year or so a number of target date fund sponsors increased their stock allocations as the market indices were reaching record highs. Read details here.

BlackRock Inc, Fidelity Investments and Pacific Investment Management Co – all firms that have seen returns in their target date funds lagging competitors – have made adjustments in the past year so that 401(k) plan participants, particularly those who are younger to middle age, are more invested in equities. In some cases employees who are in their 40s now find themselves in funds that are 94 percent allocated into stocks, up more than 10 percentage points.

The changes have prompted concerns from consultants and analysts who worry that the fund managers are raising the risks too high for 401(k) investors as they seek higher returns, perhaps as a way to boost their own profiles against rivals.