WSJ: Should Investors Create Their Own Target-Date Fund?

Target-date retirement funds are often found in company 401(k)s, IRAs and other investment vehicles. But many investors in such funds wonder if they couldn’t get similar or better returns by putting together replica versions, without the fees.

We ran a little test and discovered that, as long as you have the time and diligence to monitor and adjust your portfolio over time, then yes, the do-it-yourself version does on average outperform the original target-date fund by eliminating its fees and expenses.

A target-date fund is most often a mix of stocks and bonds in which the allocation of investments goes from riskier to more conservative as the investor’s retirement year approaches. An investor preparing for retirement in 2040 — the average year, currently, for all target-date-retirement funds — can save an average of 0.14 percentage point in expenses and fees a year, which translates to more than 2 percentage points in cumulative returns over a 10-year period.

And, even better, if you are a younger investor with an approximate retirement date of 2060, you can save an average of 0.17 percentage point in fees a year, which can yield a boost of more than 3 percentage points in cumulative returns over a 10-year period.

To implement this study, my research assistant Tyler Harb and I first collected allocation data from the prospectuses of all U.S.-based target-date retirement mutual funds. Many were very specific about what they were invested in (other mutual funds, mostly) and how big the allocation was. Some wouldn’t reveal the names of funds in which they invested but described them in specific enough terms that we could identify them as, say, a large-cap or midcap U.S. equity fund. Using this data, for each target-date fund we created a replica fund with the same contents and allocations, then ran market simulations to see what kind of returns an investor would get using a DIY version compared with its original.

To give each target-date fund a fighting chance against its replica, we picked its lowest-cost option within the different share classes. For the funds we put in the replicas, we picked the share class with the most assets under management. We then gave each investment within the replicas the same weighting as was present in the original fund.

Please read the rest at:

https://www.wsj.com/articles/investors-target-date-fund-11633130377