Are there any drawbacks in investing in those funds that change based on your retirement age?
These funds, called target-based or target-date funds, are designed as a simple investment strategy where the asset mix becomes more conservative as the fund approaches the maturity or end date. The focus of target-based portfolios is usually the preservation of capital. Often these types of funds are used by investors who feel overwhelmed by the vast choices of mutual funds in the market today. Target-based funds rebalance the portfolio on a regular basis.
These types of funds have been popular in the Unites States since the mid-1990s and are now more readily available in Canada.
As with any type of investing, you need to ensure that your selections meet your needs by evaluating your personal risk tolerance and the need for growth or income in your portfolio. Drawbacks of these types of investments are outlined below.
Fees are often 1% or higher than other similar portfolios. When assessing the returns in the markets, the TSX has averaged 7% over the past 40 years. Due to the lower rates on interest being paid on investments, the fees charged on investments become a very important factor when reviewing the type of investment. Saving 1% every year on your investment portfolio can significantly increase your retirement savings over the long term.
Lack of Flexibility:
The funds asset mix is set and cannot be altered by the individual investor. Your needs may change over your life, and this plan does not allow for changes such as income or job changes, divorce, death, or birth of a child. If these funds are held outside of your RRSP, there are tax implications that should be assessed to determine if this is the most tax effective strategy for your income level. In addition, these funds may only address one aspect of your retirement needs – either saving for retirement or post-retirement income.
With any investment, you need to assess your risk tolerance, goals and financial needs. Target-based funds do not have an industry-standard asset mix and will vary from fund to fund. Some may be more aggressive, and the fluctuation in the market may be more risky than your risk tolerance level. Others may be more conservative and may not grow enough to meet your needs.
Many investors feel overwhelmed by the choices in the market and select these funds to provide security and simplicity for their portfolios and retirement. It is important, no matter what type of investments you hold, to have an annual review of your accounts and assets in order to determine if changes are necessary. Without this annual process, investors are often caught unaware that their returns and savings may not meet their retirement needs.
Target-based funds are just one of the many types of mutual funds available to you. Regardless of your investment knowledge or time frame for investing, you should always obtain advice to ensure the investment strategy is aligned with your needs and goals. - J.R.Top of page