Lifecycle Funds: The Pros and Cons of Saving on Autopilot
By Paula Dougherty, CFP®, ChFC, CLU

Not every woman is interested in studying the stock market, investigating company performance, and changing the allocation of her portfolio as she moves through life phases focused on family, career, and retirement. In fact, many women dread the very idea!

Well ladies, investment companies have listened and are now offering lifecycle or lifestyle funds that change allocation for you according to a specified formula. In 2005, investors held $167 billion in lifecycle/lifestyle funds, a 245% increase over just two years. Often these funds are offered as an alternative in 401(k) plans.

What Are Lifecycle Funds?

Lifecycle funds offer a pre-mixed set of stocks, bonds and cash according to your age and the risk tolerance you have specified. These funds are based on the idea that asset allocation is the key to long-term investment success. Conventional wisdom suggests that stocks are riskier than bonds although they offer potential for higher returns. That’s why most professionals suggest investors switch to more bonds as they approach retirement and presumably have a lower risk tolerance.

Lifecycle funds come in two varieties: target-date and target-risk. Target date funds tie the asset allocation mix to a specific retirement date. Once you establish this date, the funds automatically adjust allocation based on the number of years until the investor’s expected retirement. Target-risk funds are divided into groups based on level of risk tolerance set by the investor, usually aggressive, moderate, or conservative. These funds ask more of the investor, who must herself shift her assets as her risk tolerance changes through her life.

Why Consider Lifecycle Funds?

Because they are more-or-less automated, lifecycle funds offer a one-step solution for women who don’t want to fuss with diversification or rebalancing. The responsibility for identifying and maintaining a proper asset allocation stays in the hands of the professionals.

Are There Potential Drawbacks with Lifecycle Funds?

Sure. Aren’t there always? These funds use age as the overriding consideration, but one woman’s 40 is not another woman’s 40. Your risk profile may be different from your best friend’s. Besides, there’s more to risk tolerance than age, and different investment companies can select quite different proportions of sticks/bonds for the same retirement age.

Also, lifecycle fund managers will assume this is your only investment when making allocation decisions. If you have other retirement accounts, a lifecycle fund may put your overall portfolio out of balance with your investment goals. Every investor should monitor such issues personally.

Evaluating Lifecycle Funds

Always do your homework and evaluate your options carefully. There is simply no way to avoid this! Find a fund that matches your overall risk tolerance and goals and choose experienced managers with a good performance history, and reasonable costs.

Fees can make a huge difference to your overall return in long-term strategies like these. These are typically funds of funds. You will usually pay the fees from the underlying funds and may also be charged a management fee on top of that. Be sure you understand the charges going in.

Lifecycle funds offer an automated, easy-to-use retirement savings vehicle that may or may not be right for you, but this is just general advice. Your best bet is to work with a professional financial planner you trust to determine the best strategies for reaching your individual goals and maintaining financial security through out retirement. And always read the prospectus carefully before investing in any fund.