Target Retirement Funds May Not Be Better

Conventional wisdom states that you should take risks when you’re younger, become more conservative when you’re older, and your finances will be better off for it. This is embodied in the typical advice for asset allocation – take 120, subtract your age, and you should have that value, as a percent, allocated towards equities in your portfolio. If you’re 20, you should be 100% in stocks. 40? 80% stocks, 20% bonds. Brokerage firms offer funds with this concept in mind, though their implementations vary slightly, by designing target retirement or lifecycle funds to this way. As the years progress, the allocation adjusts itself to meet the “rule of thumb” needs of the age group.

A recent study published in the Financial Services Review, an academic journal, shows that this isn’t necessary any advantage to his approach when looking at real-world portfolio returns. Professors Harold Schleef and Robert Eisinger of Lewis & Clark College ran simulations and discovered that such an allocation offered no advantage because of how random the stock market could be. They picked randomly a 30 year period across 80 years between 1926 and 2006 and created fictitious people with target retirement-like allocations (risky to conservative), seeing which stood the best chance of reading $1M. They found that there was only a 29% chance of making it.

Then they did the reverse (conservative to risky) and saw that there was a 45% chance of getting to a million. Going from conservative to risky was better historically! Of course they warn that you shouldn’t take this information and go all gangbusters but it’s certainly something that is noteworthy.

The Odds for a Retirement Nest Egg, Recalculated [New York Times]