Target-Date Funds: Are They Really the Right Fit for You?

Target-date funds have become the default retirement investment in many workplace plans, largely because they are easy to hold on their own. But if you own other investments alongside a target-date fund, you may need to do more work to keep your portfolio on track.

Target-date funds now make up about half the value in all workplace retirement plans, according to a DCIAA Retirement Research Center report cited by 401kSpecialist.com. These funds are designed to gradually reduce risk as retirement nears, making them a low-maintenance choice for retirement savers.

The shifting risk profile is meant to shield investors from market swings as they approach retirement, but that only works as intended when the fund is used in isolation. For people juggling several investment accounts, that can be difficult. Understanding how to use target-date funds correctly can help simplify retirement investing without creating concentration risk, adding unnecessary volatility, or limiting growth.

What Target-Date Funds Do

Target-date funds change their investment mix over time so the portfolio becomes less risky as the target date gets closer. They typically invest in stocks and bonds, and the allocation changes gradually. Stocks play a bigger role when retirement is far away, while bonds take up more of the portfolio as the target date approaches.

For example, Vanguard’s target funds move through four allocation stages, assuming the target year corresponds to age 65:

1. 90% stocks and 10% bonds from ages 20 to 60
2. 60% stocks and 40% bonds from ages 60 to 65
3. 50% stocks and 50% bonds from ages 65 to 72
4. 30% stocks and 70% bonds after age 72

This approach emphasizes stock exposure for long-term growth early on, then shifts toward a more conservative stance as retirement gets closer. That reduces exposure to stock-market volatility over time, which can help preserve account value and make retirement savings last longer.

Why Target-Date Funds Are So Popular

Target-date funds appeal to retirement investors because they require very little ongoing decision-making. You mainly choose the target date, usually the year you expect to retire, and then continue making contributions.

That simplicity is a major reason employers often make target-date funds the default option in 401(k) plans. This especially affects employees who are automatically enrolled, since their contributions are generally invested in a target-date fund aimed at the year they turn 65, or the closest available option.

Using Your Target-Date Fund Wisely

Whether you selected the fund yourself or were automatically enrolled, you still take on the risk that comes with it. That makes it important to review how it fits into your broader portfolio. Here are three questions to consider.

Is the Target-Date Fund Your Only Investment?

If you own a target-date fund along with several other funds, you may lose the convenience of the strategy and weaken its intended allocation.

Convenience benefits. Target-date funds rebalance automatically based on their designed allocation. Once you add other investments, you take on the responsibility of rebalancing yourself.

Rebalancing means making trades to bring your portfolio back to its intended mix. For example, if you want a moderately risky portfolio split evenly between stocks and bonds, faster stock gains may require selling some stocks and buying bonds from time to time to keep that 50/50 balance.

Allocation strategy. The allocation inside a target-date fund is built to match your age. Any additional holdings change your overall exposure and can undercut the fund’s intended design.

For instance, if you have a $200,000 target-date fund invested 70% in stocks and 30% in bonds, and you also hold $100,000 in all-stock funds, your actual allocation becomes 80% stocks and 20% bonds. That is riskier than the original 70/30 mix. If stocks outperform the target-date fund and bonds remain flat, your stock exposure—and your risk—will rise even further.

How Aggressive Is the Fund in the Target Year?

There is no single universal system for labeling a target-date fund as aggressive or conservative. A quick way to judge one is by looking at its allocation in the target year. As a rough guide, a fund with 40% to 55% stock exposure in the target year is moderately risky. Lower stock exposure suggests a more conservative approach, while higher stock exposure indicates a more aggressive one.

It also helps to see when the fund reaches its most conservative allocation. A fund that stays at the same allocation from retirement onward may offer more protection. Some funds, including Vanguard’s, do not reach their most conservative level until well into retirement.

Once you understand your own risk tolerance, you can judge whether your current target-date fund is a good fit. If you want more risk than the fund provides, you can choose a later target year. If you want less risk, an earlier target year may be better. You can also compare alternatives if your 401(k) offers more than one target-date fund.

Do You Understand the Risks Near Retirement?

Target-date funds are built to reduce volatility risk as retirement approaches. That matters because retirement is when many investors begin selling assets to fund withdrawals. Selling when stock prices are down can mean getting less cash or having to sell more shares.

Even so, target-date funds can still lose value during their more conservative years. If stocks fall 40%, a target-date fund with a 50/50 stock-and-bond mix could still decline by 20% or more. If that level of risk is uncomfortable, a stable value fund or a conservative target-risk fund may be a better choice.

How to Invest Alongside a Target-Date Fund

You can hold a target-date fund and other assets, but doing so requires more attention to make sure the overall risk level is acceptable. These are the basic steps:

1. Identify the fund’s current allocation. Decide whether you are comfortable with it, especially in a scenario where stock prices fall 30% or 40%.
2. Calculate your total allocation. Add up the dollar value of all your assets, including the target-date fund, then divide each asset type by the total.
3. Compare your overall allocation with the fund’s allocation. Decide what your total portfolio should look like. Unless you are an experienced investor who understands the trade-offs, it generally should not be more aggressive than the target-date fund.
4. Adjust your holdings to match your goal. You can change your investments, select a different vintage target-date fund, or replace the target-date fund with separate stock and bond funds. The last option may be simplest because it gives you a clearer view of your exposure going forward.
5. Rebalance regularly to stay aligned with your target. The value of your holdings will shift over time, which can move your portfolio away from its intended mix. Your risk tolerance may also change, which could mean updating your allocation goal. Rebalancing is the usual solution.

The purpose is to make sure your investments work together instead of accidentally increasing risk or holding back growth.

Bottom Line

Target-date funds are a common default retirement investment because they are easy to hold on their own. When combined with other assets, they can still be useful in a retirement plan—but only if you use them deliberately and keep an eye on how everything fits together. “Set it and forget it” works only when nothing else is in the portfolio.