Show #355 Airing Sunday, 9/3/06
If you discovered Great Grandma modeling a miniskirt, or Grandpa sporting a Speedo, you might say they were not dressing “age appropriately.” Well, fashion isn’t the only area where style and age come together. When it comes to investing, we also need to make sure our portfolios fit our age. Here to explain how to “re-design” our finances is the Ralph Lauren of money management, Jim Lineweaver, founder of The Lineweaver Financial Group.
Question: Why should our investments change with out age?
Answer: As a general rule, when we are younger, and have more time until retirement, we can and should take more risks, invest more in stocks. As we age, we need to reduce our risk and exposure to the stock market. Our portfolio must change over time.
Question: So many mutual funds are available in the marketplace that many people may have a hard time choosing the right one for their retirement accounts. To simplify the process, many mutual fund companies have come out with life cycle mutual funds. What is this type of fund, and should our viewers give them a closer look?
Answer: Many mutual fund companies do offer life cycle mutual fund, and they are a common choice in many 401(k) plans today. These funds were introduced in the '90s as a response to investors' wishes to make the asset allocation process easier. These mutual funds typically use a target retirement date and then reduce the portion of the fund's investments in stocks as that retirement date gets closer.
Briefly, asset allocation is the portion of your retirement assets that are committed to different asset classes, like stocks, bonds and cash. The life cycle mutual funds are designed to simplify the asset allocation process by giving investors a mutual fund that is specifically designed for them and their target retirement date.
Question: Can you give us an example of how that would work?
Answer: Let's say that you are thinking about retiring in about 15 years. The life cycle mutual fund you choose uses the year 2020 as its target retirement date. It has an asset allocation in place, and over time the asset allocation will be adjusted and money will be moved from stocks into bonds. The mix between stocks and bonds might be 80/20.
In 5 years, the mix might go to 65% stocks and 35% bonds. The trend continues as you near retirement. By changing the asset allocation as that target retirement date gets closer, the fund is becoming more conservative.
Additionally, the mutual fund will be rebalanced on an ongoing basis. Let's say that the current allocation calls for an 80/20 split between stocks and bonds. If the stocks have done really well and the appreciation has caused the actual mix to move to 85/15, stocks will be sold to get the get back to the 80/20 mix.
Question: This sounds like a simple approach to asset allocation needs. Are there any drawbacks?
Answer: It is a very simple process. And I think it might work for the investor who does not want to take the time to do any research on their own. In that case, let the mutual fund company decide the best asset allocation for you.
But you have to keep in mind that your asset allocation is just like the asset allocation for all other investors that are planning on retiring around the same time. It does not take into account differences in the investor's risk tolerance, needs for growth, or anything else that comes into play in determining the proper asset allocation.
Think of it like going into the ice cream store, and letting the person behind the counter pick the right flavor for you based on your age. Everyone age 55 gets vanilla. Is that the flavor you would have chosen? Would you have added a topping or whipped cream? With a life cycle mutual fund, you have let the mutual fund company make the decisions for you.
Question: So if you don't want to spend a lot of time looking at the choices available for retirement assets and are comfortable with someone making that decision based solely on your age, this type of fund might be appropriate.
Answer: While the process may be simpler, you still have to understand some basics to know what is right for you. Look at the target date allocation funds for different mutual fund families, and you will see different percentages of the funds allocated to stocks. In other words, different funds, even designed for people retiring at the same time, have different risk parameters.
You still have to know what you are looking at. And many of the life cycle funds overlook areas with greater growth potential, such as international stocks, small company stocks, or value oriented stocks. And on the other side, many of the life cycle mutual funds typically invest a greater portion of their assets in cash.
Many people that do have life cycle mutual funds add other mutual funds to their portfolio. What has this done to the asset allocation that the life cycle funds were designed to simplify? They may have significantly altered the asset allocation the fund managers designed.
Question: Are the fees any higher than for regular mutual funds?
Answer: No. They’re usually comparable. No additional charge for re-adjust
Question: Can't you just re-allocate your investments yourself, or with a financial advisor without the need for a life-cycle fund7.
Answer: Yes. And you'll have an investment portfolio that's not generic and fits your personal needs better-if you do it right. But that takes time and work, and many investors aren't willing to "invest" their time in learning or working with a good advisor.
Question: Are all life cycle funds the same?
Answer: No. You should shop and compare. Different funds use different risk parameters.
Our life cycle is from dust to dust. But if you don't want your finances to wind up as a pile of dust, think about a life cycle mutual fund. Give Jim Lineweaver a call for more information.
