While target date funds (TDFs) continue to be among the most popular investment choices for 401(k) participants, mounting evidence suggests these default investment options may not be optimal for everyone. According to recent Plan Sponsor Council of America data, TDFs now represent 29% of assets in the average 401(k) plan—the largest of any fund category, and up from 16% in 2014. Moreover, Cerulli Associates projects this share to reach 46% of total 401(k) assets by 2027, according to data cited by CNBC.
This substantive uptake in 401(k) plans, driven largely by automatic enrollment defaults, raises important considerations for plan sponsors regarding the universal application of TDFs across their participant base. While these funds offer valuable simplification for many participants, TDFs aren’t one size fits all. In other words, there are scenarios where TDFs may not align with individual participant needs.
The standardized approach of TDFs, while beneficial for many, presents several potential drawbacks that plan sponsors should evaluate:
- Disparities in risk tolerance: Target retirement dates alone may be insufficient to determine appropriate asset allocation. Two participants targeting retirement in 2035 may have vastly different risk tolerances, financial circumstances, or investment preferences that aren’t addressed by a one-size-fits-all glide path. For example, many 2030 vintage TDFs maintain approximately 60% equity exposure—an allocation that may not be suitable for all near-retirees.
- Portfolio integration challenges: For participants with substantial assets outside their 401(k), TDFs can complicate holistic investment strategies, particularly regarding tax-efficient asset location. The inability to customize asset allocation across accounts may result in suboptimal portfolio construction for more sophisticated investors.
- Limited investment flexibility: As noted by Winnie Sun, managing partner of Sun Group Wealth Partners, who was quoted in the CNBC article (linked above), TDFs may not accommodate participants who prefer more conservative positions, seek aggressive growth opportunities, or who want to incorporate specific investment approaches such as socially responsible investing.
So then, what are the implications for retirement plan fiduciaries? First, while TDFs remain valuable as default investments, sponsors should evaluate whether their participant population might benefit from additional investment alternatives and education.
Additionally, communication strategies should help educate participants about both the benefits and limitations of TDFs so they can make more informed decisions about the suitability of these funds when it comes to their retirement investing strategy. For sponsors offering only one TDF series, it’s important to carefully evaluate the provider’s investment philosophy and glide path design, as these will significantly impact participants who may have different risk preferences.
Despite these limitations, experts like Morningstar’s Christine Benz, also quoted in the CNBC article, maintain that TDFs represent a significant positive development for many investors, particularly those who might otherwise not make the most appropriate investment choices for their situation. The key for plan sponsors lies in recognizing that while TDFs serve as an excellent default investment option, they may not be a solution that works for all participants.
