Money Rehab with Nicole Lapin - The Truth About Target Date Funds

Episode Date: April 20, 2022

Nicole explains what a target fund is— and unpacks some hangups that many experts won’t tell you about. See omnystudio.com/listener for privacy information.

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Well, it doesn't. Charge for wasting our time. I will take a check. Like an old school check. You recognize her from anchoring on CNN, CNBC, and Bloomberg. The only financial expert you don't need a dictionary to understand. Nicole Lappin. Today we're diving into investment land, thanks to this question from a money rehabber.

Hey Nicole, my name is Danny and I'm a big fan. I've indexed funds and chilled and now I'm wondering what's next. I've been hearing a bit about target date funds. Would you recommend I invest in those? It doesn't surprise me at all that you, Dani, have been hearing chatter on target date funds because they are like the darlings and the fastest growing segment of the mutual fund community. So target date funds, sometimes called lifestyle funds, are investment vehicles that are structured to give you the best ROI on a certain date. So target date funds have become a very popular investment option for retirement because you can assign your target date to be the year that you plan to retire.

But these funds aren't just for retirement. You can buy them on their own. If you did want to buy a target date fund on your own, you just give your brokerage the information on when you want to take the money out. So maybe it's your retirement age, or perhaps it's when you want to have a big hunk of money for your honeymoon. Or maybe your birthday 10 years from now is a big one and you want to give yourself an amazing gift. You get the idea. Once you choose the target date, the brokerage works to figure out the right balance of stocks that go in that fund. Target date funds? So far, sound pretty perfect. But there are, of course, some hangups that a lot of experts are not going to tell you about because they think either A, you're not smart enough to understand or care about more than just the basics,

or B, target date funds are good enough and certainly better than the alternatives of investing everything in your own company stock or doing nothing. The number one thing that pisses me off about how the financial community educates people about this product is that they don't explicitly say that this is the target for the date and not the amount you get on that date. I'll say that again. Target date funds target a date, not an amount that you get on that date. According to a recent survey, more than half of people thought they wouldn't lose money in these funds and that they would magically get exactly what they wanted when they wanted

it when their date arrived. I know, sounds crazy when I put it that way, but that's how people talk about target date funds. The truth is there is no guarantee of what you'll get on your target date. There is absolutely no guaranteed rate of return. Your target date may arrive and you may find that you haven't earned as much money as you thought you would. My second biggest issue with target date funds is that they operate on the assumption that you'll need more bonds than stocks in the mix the closer you get to the target date. Generally, bonds are safer investments than stocks, so that makes sense on the surface.

But if you double click on that concept, you'll remember what I've taught you about bonds. Bond prices tank when interest rates go up. It's a seesaw. Remember, the assumption with target date funds is that the seesaw is stocks and bonds. That is not correct all of the time. For example, during the 2008 recession, both stocks and bonds fell, which means your ass would have been on the floor if that was your target date. I totally get why someone telling you to pick your date and we got the rest is super alluring for sure. Just know that target date funds are more expensive than mutual funds with fees of as much as 2%, which is unnecessary in my humble opinion, and more volatile than the marketing makes you believe.

For today's tip, you can take straight to the bank. If choice freaks you out or you honestly just don't want to deal with your own allocation over the years, then target date funds are a better choice than doing nothing at all. But they're basic. Their assumptions are for the average person. We are many things, money rehabbers, that basic and average are two of them. Money Rehab is a production of iHeartRadio. I'm your host, Nicole Lappin. Our producers are Morgan Lavoie and Mike Coscarelli. Executive producers are Nikki Etor and Will Pearson.

Our mascots are Penny and Mimsy. Huge thanks to OG Money Rehab team, Michelle Lanz for her development work, Catherine Law for her production and writing magic, and Brandon Dickert for his editing, engineering, and sound design. And as always, thanks to you for finally investing in yourself so that you can get it together and get it all.