I’m starting this series of ‘What the F@%K is a…’ in order to express the thought I have each time I see some financial jargon in a newspaper/magazine and have ABSOLUTELY no idea what it means. I then proceed to my good friend Google and look up said definition only to be bombarded with ten more jargon words and leaving me more confused than before. So in honour of the complicated financial world, I have decided to do some research and explain to the best of my ability the concepts involved. For those who can’t be asked, there’s a little index with short definitions at the end of the post.
Today’s beautiful jargon is: ‘Lifestyle fund’.
Lifestyle funds are basically a lifelong investment. You put a certain amount of money at the beginning and it invests into some assets for you, which you then access once you retire. Is that all? Nope, a bit more complicated.
What’s cool about this investment fund is that it’s a mix of assets which are chosen according to your age, how much risk you’re willing to put in, your purpose and how long you want it to last. Normally, the younger you are the more open you are to higher risk (if you go broke you have longer to recover). These ‘funds for young people’ are called aggressive growth lifestyle funds. If you’re part of the older generations and would rather not go broke, you can get a conservative growth lifestyle fund (congrats you’re now a tory JOKES).
So what you do is select a strategy you prefer (high risk or low, what market you’re interested in, etc), and a manager will *gasp* manage your investments. This means you don’t have the stress of constantly monitoring the market and rebalancing your portfolio. As you get closer to retirement, your portfolio switches your investments from the risky stuff (stocks) to the less risky stuff (bonds).
The closer you get to needing your money, the less likely it is to disappear through market volatility. This entire process is designed to enforce investment growth in the early stages, preserve the size of the pension with long gilts, and then retire with a 25% in tax-free cash and a pension. You can then use that money to buy an annuity (pension) and boom, you’re retired.
There are also target-date funds, which basically are lifestyle funds except you have a specific date of retirement and you outsource all the ‘tailoring to my needs’ strategy to a manager.
So now you know what a lifestyle fund is. Great! But the real question is: should you get one? Let’s analyse
- It’s all on autopilot. You put in your money, select a strategy, and a manager takes care of the rest. You know there will be some growth and will retire with some safe money.
- For Americans, it’s pretty simple to select a lifestyle fund through an employer-sponsored 401k retirement plan
- Generates better returns that a savings account
- Great way to safeguard your retirement income as you swap your pensions savings for tax-free lump sum and an annuity
- Works great if you’re sure you want an annuity.
Meryn from MoneyWeek (my favourite magazine ever) says lifestyle funds are a bad idea.
- Nowadays we are free to choose when we retire (maybe even never). It’s great, but it means that people want different things: a lump of a cash, a long term income generated by capital or an annuity. Lifestyle Funds only provide annuities.
- The Pensions Industry is out of date: it considers equities to be high-risk and high-return, with bonds to be low-risk and low-return. This is wrong because now is not 30 years ago. Interest rates have fallen, and bonds return more than equities. Investing today means rising interest rates and therefore falling bond prices (not very safe mate).
- Nowadays less people will take out an annuity (the rates are lame), so people prefer to keep invested in growth assets well into retirement instead of an income.
- You can’t invest more in certain asset classes or sectors (no control)
- You don’t know exactly when you want your pension benefits. Around 10 years before you plan on retiring, the fund will ask you what your plan is for retirement. But surprise surprise, some people don’t even know what their plan is next month = hard to set an appropriate plan.
Since Lifestyle funds aren’t as popular now, it was hard to find someone who had first-hand experience owning one. But after a bit of research, I found this opinion on Reddit:
DeeDee_Z: In my opinion such funds are too conservative, or become “too conservative too soon”.
TD funds are the option of choice for companies that auto-enroll employees — and many of those are people who have little understanding of the market and its vagrancies. Such people typically do not look kindly on losing principal; if they were to lose, say, 12% in face value in a month a fair number of them — this being America, after all — would call up a lawyer and try to sue.
To minimize the chances of this, many TD funds are heavier on bonds than they need to be; and they shift to too bond-heavy sooner than they need to.
I also got a quote from Josh at Big Law Investor!
Target Date Retirement Funds are a great option for an early investor. The financial industry will try to convince you that investing is hard. It isn’t. This is especially true when you’re getting started, since your savings rate has a much bigger impact on building wealth than your rate of return. If you’re new to investing, find a Target Date Retirement Fund that’s right for you and then pile in as much money as possible. After you’ve hit about $100,000, reexamine your situation to see if it’s still the right fit or if you’d be better setting up a different portfolio (like the 3-fund portfolio made famous by the Bogleheads).
Don’t hesitate to share your thoughts in the comments below!
Lifestyle fund: Life-long investment fund which allocates assets from risky to less risky the older you get, so you can then buy an annuity
Target Date Fund: A lifestyle fund with a set retirement date and with complete management over strategy chose.
Aggressive Growth Lifestyle Funds: Higher risk asset allocation (more stocks)
Conservative Growth Lifestyle Funds: Lower risk asset allocation (more bonds)
Long Gilts: The UK version of US Treasury securities. Basically bonds issued by the government, considered low-risk.
I want to find out more:
(link takes you to their article on Lifestyle Funds)
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