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Are Target Date Funds Off Target?

Jun. 04, 2018 7:53 AM ET8 Comments
Laurence Kotlikoff profile picture
Laurence Kotlikoff


  • Target date funds can be far off target.
  • They can be far too risky when young and far too safe when old.
  • The proper fiduciary default investment is TIPS (Treasury Inflation Protected Securities), not a target date fund.

Target date funds are now the default investment option for many, if not most, 401(k) and similar employer-sponsored retirement plans. Such funds entail an initial high allocation to stocks with a switch to bonds as the target date approaches. The target date is usually set at the firm's typical retirement age, with the employee defaulted into a target-date fund whose duration aligns with the employee's years to retirement.

Consider the Vanguard Target Retirement 2065 Trusts, designed for people intending to retire in 2065 or thereabouts. This life-cycle fund invests 90 percent of assets in stock and 10 percent in bonds through 2040, moving to a 50-50 stock-bond allocation by 2065. Between 2065 and 2072, the fund transitions to a permanent 30-70 stock-bond mix.

Does economic theory support this age-related investment strategy? Not necessarily as I'll explain.

In 1969, Paul Samuelson and Robert Merton independently showed that, given a set of simple and reasonable assumptions, we should hold the same portfolios as we age. Thus, if hypothetical Sandra puts 75 percent of her resources in risky securities and 25 percent in safe securities at 30, she should invest the same at 90.

This may seem strange to those who think stocks are safer the longer they're held. But this is a common fallacy. Holding stocks longer doesn't make them safer. Indeed, the market charges far more to insure the long-term return to stocks than the short-term return. My Boston University colleague, Zvi Bodie, has been pointing this out for decades.

Since holding risky assets longer doesn't make them safer, Sandra's investment decision at 30 is fundamentally no different than at 90. Does this mean that target date funds are off target?

Yes and no.

First, the Yes. The Samuelson-Merton result applies to our overall holdings of resources, which goes beyond our stocks and bonds

This article was written by

Laurence Kotlikoff profile picture
Laurence J. Kotlikoff is a William Fairfield Warren Professor at Boston University, a Professor of Economics at Boston University, a Fellow of the American Academy of Arts and Sciences, a Fellow of the Econometric Society, a Research Associate of the National Bureau of Economic Research, Head of International Department for Fiscal Sustainability Studies, the Gaidar Institute, President of Economic Security Planning, Inc., a company specializing in financial planning software, and the Director of the Fiscal Analysis Center. Professor Kotlikoff is a NY Times Best Selling author and an active columnist. His columns and blogs have appeared in The New York Times, The Wall Street Journal, The Financial Times, the Boston Globe, Bloomberg, Forbes, Vox, The Economist, Yahoo.com, Huffington Post and other major publications. In addition, he is a frequent guest on major television and radio stations. In 2014, he was named by The Economist as one of the world's 25 most influential economists. In 2015 he was name one of the 50 most influential people in Aging by Next Avenue. Professor Kotlikoff received his B.A. in Economics from the University of Pennsylvania in 1973 and his Ph.D. in Economics from Harvard University in 1977. From 1977 through 1983 he served on the faculties of economics of the University of California, Los Angeles and Yale University. In 1981-82 Professor Kotlikoff was a Senior Economist with the President's Council of Economic Advisers. Professor Kotlikoff is author or co-author of 19 books and hundreds of professional journal articles. His most recent book, Get What's Yours -- the Secrets of Maxing Out Your Social Security Benefits (co-authored with Philip Moeller and Paul Solman, Simon & Schuster) is a runaway New York Times Best Seller. His other recent books are The Clash of Generations (co-authored with Scott Burns, MIT Press), The Economic Consequences of the Vickers Commission (Civitas), Jimmy Stewart Is Dead (John Wiley & Sons), Spend ‘Til the End, (co-authored with Scott Burns, Simon & Schuster), The Healthcare Fix (MIT Press), The Coming Generational Storm (co-authored with Scott Burns, MIT Press), and Generational Policy (MIT Press). Through his company, Professor Kotlikoff has designed the nation's top-ranked personal financial planning software and Social Security lifetime benefit maximization software. Professor Kotlikoff has served as a consultant to the International Monetary Fund, the World Bank, the Harvard Institute for International Development, the Organization for Economic Cooperation and Development, the Swedish Ministry of Finance, the Norwegian Ministry of Finance, the Bank of Italy, the Bank of Japan, the Bank of England, the Government of Russia, the Government of Ukraine, the Government of Bolivia, the Government of Bulgaria, the Treasury of New Zealand, the Office of Management and Budget, the U.S. Department of Education, the U.S. Department of Labor, the Joint Committee on Taxation, The Commonwealth of Massachusetts, The American Council of Life Insurance, Merrill Lynch, Fidelity Investments, AT&T, AON Corp., and other major U.S. corporations. He has provided expert testimony on numerous occasions to committees of Congress including the Senate Finance Committee, the House Ways and Means Committee, and the Joint Economic Committee.

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