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In recent years, target-date mutual funds have grown substantially, with savers investing $55 billion into the funds last year in the hopes of getting easy exposure to every asset class you need for a diversified portfolio.
Their popularity is understandable: Different funds focus on different target dates, the idea being that you pick whichever date is closest to when you’ll need your money back. When that date is far away, the fund invests aggressively, with most of its money going to stocks. As the “target” date approaches, though, the fund gets more conservative, with less money devoted to stocks and more moved into bonds and other less aggressive investments.
The idea of a single investment that gives you everything you need to reach your financial goals attracts many people who are too busy to spend a lot of time managing their money.
However, many investors have learned the hard way that not all target-date funds are the same. Even with similar names, funds from different companies can give you dramatically different performance.
Why the Difference in Returns?
Each company’s target-date funds use different strategies for figuring out exactly how much money to put in stocks, bonds, and other investments at various points.
Some providers, including T. Rowe Price (TROW), have been more aggressive about keeping more money in stocks, even as the target date approaches. Others, such as Fidelity, have had less in stocks. Having less money in stocks has been bad since the market bottomed out in 2009. That’s why, since then, Fidelity’s target funds have underperformed their peers, while T. Rowe Price has topped the vast majority of rival target funds’ returns.
But some of Fidelity’s bad performance was self-inflicted because the company chose to include higher cost, actively managed mutual funds in its target-date funds. In comparison, rival Vanguard used low-cost index investments for its target funds.
Fidelity has since changed that method, introducing better performers and lower-cost index investments into its mix.
Keep Your Eyes Open
If you’re considering a target-date fund, don’t assume that they’re all the same. Match your choice to the amount of risk you prefer to take, and you’ll be happier with the long-term results in both up and down markets.
For More On Smart Investing:
- My Social Security Site Has the Lowdown on Your Future Benefits
- Should You Invest Your Emergency Fund?
- Bond Market Crash: Is Disaster Ahead for the ‘Safe’ Part of Your Portfolio?
This story was originally published by Daily Finance.
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