As target-date funds become more popular within retirement plans, lifecycle investing are growing increasingly important in the investment landscape. With investment firms rushing to bring their own target-date funds to market, new versions of the product will inevitably arise as well. At least one firm has its own idea about the next step for target-date funds -- and it's a surprisingly familiar idea.
The new frontier
UBS's (NYSE:UBS) Global Asset Management team has recently announced that it's rolling out "next generation" target-date fund products -- funds that actively adjust asset allocation on an ongoing basis. While target-date funds were designed to gradually shift their holdings from stocks to bonds as the fund's target date approaches, most funds' asset-allocation mixes are largely static. For example, a fund family's 2040 fund may currently have a static 75% equity-25% bond mix, while the 2010 fund may have a consistent 80% bond-20% equity mix.
UBS feels that the various risks investors faces over their investing career should be managed on an ongoing basis. Its new offerings seek to add value by making continuous shifts among stocks, bonds, and cash, instead of just gradually reducing equity exposure over time. Chances are good that more firms will begin moving in this direction, offering target-date funds that contain some degree of ongoing active management.
Not so new
Of course, this so-called next generation of lifecycle investing isn't really new. Big financial firms such as Morgan Stanley (NYSE:MS), Merrill Lynch (NYSE:MER), and Goldman Sachs (NYSE:GS) have made asset-allocation recommendations available to the public for years. But instead of letting investors use those numbers as a guide, UBS aims to take all the decision-making authority onto its shoulders.
Of course, it's a fund manager's job to make active decisions about which investments are the most attractively priced right now. Fund companies were short-sighted to exclude this ability from most of the target-date funds currently available. Too many firms saw money flowing into rivals' offerings, and rushed to create their own version of the product. Since a passive asset allocation is the easiest approach to take, that's exactly what most firms did.
With these firms making their living from active management, why wouldn't they apply the same approach to lifecycle investing? In truth, many firms lack expertise in managing a lifecycle fund's multiple asset classes. It's easy enough to find a number of stocks to fill an all-equity portfolio, or enough bonds for a fixed-income fund, but doing both while actively balancing the two is much trickier. In lifecycle funds, managers shouldn't just know how to pick good stocks or bonds; they should also know which of those two options is currently the wisest use of capital, based on the market's conditions.
Getting what you pay for
In general, more actively managed lifecycle funds are a positive development. While investors want to stay focused on the long term, a lot can happen in the short run. And if you're invested in a balanced or lifecycle fund, you need a manager who can adjust to short-term changes in the market. After all, if you wanted a passive allocation, you could just invest in an index fund or two. If you're paying for an active manager, you may as well get your money's worth, enjoying the benefit of their expertise in both asset allocation and stock- and bond-picking.
So if you're in the market for a lifecycle fund, be sure you know how your fund's asset allocation is managed. This is not always easily apparent, so you may have to ask a few questions to get to an answer. Look for a fund and a fund family with a long history of active lifecycle or multiple-asset-class management. That'll help ensure that your lifecycle fund has the best chance at long-term success, whatever the next generation of mutual fund products brings.
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Fool contributor Amanda Kish lives in Rochester, N.Y., and does not own shares of any of the companies or funds mentioned herein. The Fool's disclosure policy has remained active throughout its entire lifecycle.
