To build or not to build your own portfolio?

By Walter Updegrave, senior editor


(Money Magazine) -- Question: Our retirement savings plan at work now offers several target-date retirement funds. I'm about 20 years from retirement, and I'm wondering whether I should consider one of these funds or try to keep a diversified portfolio on my own? -- Michael P., Chillicothe, Ohio

Answer: The answer depends on how confident you feel about building a portfolio on your own.

walter_updegrave__2009b.03.jpg
Walter Updegrave is a senior editor with Money Magazine and is the author of "How to Retire Rich in a Totally Changed World: Why You're Not in Kansas Anymore" (Three Rivers Press 2005).

You don't have to be a financial whiz to do so. Basically, we're talking about creating a mix of stock and bond funds from the lineup of investments in your plan that makes sense given factors such as how much risk you're willing to take and how long you have to go until retirement.

The closer you are to calling it a career, and the more anxious you get seeing your account balance head south during market setbacks, the more you'll want to tilt that mix toward bonds. To come up with a specific stocks-bonds blend that makes sense for you, you've got several options.

The first is to check out the resources offered by your plan. Most 401(k)s and similar plans provide online tools and calculators that can show you how different investment strategies might affect the account balance you accumulate during your career, as well as what that might mean in terms of future retirement income.

Some of these tools are getting quite good. As I noted recently, the Lifetime Income Analysis calculator that Putnam recently introduced does a particularly good job of showing people where they stand and what they can do to improve their retirement prospects.

If your plan doesn't offer such tools, a number of free calculators online, including our Retirement Planner, Fidelity's myPlan Retirement Quick Check, and T. Rowe Price's Retirement Income Calculator can demonstrate how different investment approaches combined with different levels of saving can affect your projected standard of living in retirement.

But if the thought of consulting calculators and such turns you off -- or you're just not sure that for now at least you want your retirement riding on your portfolio-building prowess -- then a target-date retirement fund is certainly worth considering.

The virtue of these funds is that they give you quick and easy access to a diversified portfolio. Just pick the fund with a target date that roughly corresponds to the year you think you'll retire and you'll get a pre-built portfolio that takes your planned retirement date into account when setting its mix of investments. Typically, the fund includes domestic and foreign stocks and bonds, and in many cases, target funds include some sort of exposure to inflation-hedges such as TIPS, real estate, commodities or natural resource stocks. The fund's mix automatically becomes more conservative -- i.e., shifts more assets away from stocks -- as you get closer to your retirement date.

But any "quick and easy" solution necessarily comes with drawbacks, the biggest of which in this case is that that no fund designed to cater to thousands of people can come up with the ideal mix for each of its shareholders, even if they're likely to retire around the same time.

If you've got lots of assets outside your company plan and will also be collecting a traditional check-a-month pension, you may be willing to take more risk (and thus accept a higher percentage of stocks) than someone your age who is relying pretty much on his or her 401(k) alone. Conversely, you might prefer a more conservative portfolio if just happen to be more risk averse. The point is that target-date funds don't lend themselves to individualized solutions.

Nor are their portfolios standardized. The percentage of assets in stocks can vary pretty dramatically even among target-date funds geared toward people of the same age. This became an issue during the last downturn when some target-date fund shareholders on the verge of retirement suffered steep declines in their account values because their fund held upwards of 60% in stock.

In the wake of that incident, Congress, the Securities and Exchange Commission and the Department of Labor have been examining these funds with an eye toward addressing such limitations. What "fixes" they'll come up with is anyone's guess (although as I said in a previous column, I hope the answer isn't to have the feds effectively set portfolio mixes for target funds).

In the meantime, though, target date funds remain an increasingly popular choice among investors. And as the stock market has recovered, they've been doing pretty well on the performance front too.

All of which is to say that, yes, if you don't want to create your own portfolio, a target-date fund is a reasonable choice. That said, before you plow your savings into one, check to be sure you're okay with the fund's investment strategy, particularly the percentage of assets in stocks. Don't just assume that the target fund your plan offers is right for you. While you're at it, make sure you also understand the fund's "glide path" -- how the fund's stocks-bond mix changes as you near and enter retirement.

Finally, there is one other thing you might want to consider if your plan offers it: a managed account. Essentially, you turn over management of your account to an independent investment firm that creates and monitors a portfolio based on your particular needs. This service isn't free, of course. So even if it's available and appeals to you, you'll want to ascertain that the managed account fee plus other plan charges aren't eating too deeply into your returns.

So take some time and think about which of these options realistically makes the most sense for you. But don't obsess too much. One of the nice things about investing within a tax-advantaged retirement account is that you can always change your mind later without having to worry that rejiggering your investments will be a taxable event.

Correction: An earlier version of this article misidentified the investment choice for those nearing retirement as stocks. Those investors should tilt the mix toward bonds. To top of page

Frontline troops push for solar energy
The U.S. Marines are testing renewable energy technologies like solar to reduce costs and casualties associated with fossil fuels. Play
25 Best Places to find rich singles
Looking for Mr. or Ms. Moneybags? Hunt down the perfect mate in these wealthy cities, which are brimming with unattached professionals. More
Fun festivals: Twins to mustard to pirates!
You'll see double in Twinsburg, Ohio, and Ketchup lovers should beware in Middleton, WI. Here's some of the best and strangest town festivals. Play
Overnight Avg Rate Latest Change Last Week
30 yr fixed3.98%3.95%
15 yr fixed3.05%3.05%
5/1 ARM3.32%3.71%
30 yr refi4.05%4.03%
15 yr refi3.12%3.11%
Rate data provided
by Bankrate.com
View rates in your area
 
Find personalized rates:
Index Last Change % Change
Dow 16,805.41 127.51 0.76%
Nasdaq 4,483.72 30.92 0.69%
S&P 500 1,964.58 13.76 0.71%
Treasuries 2.27 -0.00 -0.09%
Data as of 8:54am ET
Company Price Change % Change
Ford Motor Co 13.78 -0.62 -4.31%
Microsoft Corp 46.13 1.11 2.47%
Apple Inc 105.22 0.39 0.37%
Bank of America Corp... 16.72 0.12 0.72%
Yahoo! Inc 43.50 0.90 2.11%
Data as of Oct 24

Sections

New York headlines took a straight forward and direct approach with NYC's Ebola news. More

The midterm elections are around the corner, and the economy remains a top concern. With unemployment down and inflation low, why do people still feel the economy stinks? More

Shares of Facebook recently topped $80. They've more than quadrupled from their post-IPO lows of two years ago. Can Mark Zuckerberg keep the momentum in mobile going? More

Host a furniture market. Here's how small town High Point, N.C. rakes in this much money -- twice a year. More

If you're looking to fly this holiday season, the clock's ticking to get the best prices. More

Most stock quote data provided by BATS. Market indices are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer.

Morningstar: © 2014 Morningstar, Inc. All Rights Reserved.

Factset: FactSet Research Systems Inc. 2014. All rights reserved.

Chicago Mercantile Association: Certain market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved.

Dow Jones: The Dow Jones branded indices are proprietary to and are calculated, distributed and marketed by DJI Opco, a subsidiary of S&P Dow Jones Indices LLC and have been licensed for use to S&P Opco, LLC and CNN. Standard & Poor's and S&P are registered trademarks of Standard & Poor’s Financial Services LLC and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC. All content of the Dow Jones branded indices © S&P Dow Jones Indices LLC 2014 and/or its affiliates.