Many investors approach the
financial markets like they do the weather. They listen to
forecasts and react, trying to predict changing prices as if
they're changing temperatures or the chance of precipitation.
Investors' actions are often driven by fear. They don't want to
risk getting caught in the rain without an umbrella or being
left out in the cold.
The problem is that investors are
human, so emotions can influence their decisions. When markets
are stormy, investors sometimes flee to perceived
safetyselling stocks and buying bonds. But, taking an
emotional, reactive approach to volatility can hurt an
investor's odds of being ready when it's time to retire.
One reason many plan sponsors
select target-date funds (TDFs) as their plan's qualified
default investment alternative (QDIA) is to curb emotional
investing. TDFs are structured to help remove the emotion from
"TDFs are a diversified,
all-in-one solution, designed to weather economic climates
within the context of an investor's age," explains John Croke,
Vanguard's head of multi-asset product management. "Younger
investors, theoretically, can withstand more volatility because
a larger percentage of their total wealth is in human capital
versus their financial holdings. As investors age, the TDF
glide path mitigates volatility by moving gradually into a
broadly diversified mix of more conservative assets."
By year-end 2016, nearly all
Vanguard participants were in plans offering TDFs.
Three-quarters of participants whose plans offered TDFs had an
investment in them.¹ And, it is projected that 90% of new
contributions will go into TDFs by 2020.²
"While long-dated TDFs will
experience significant declines during large equity market
corrections, Mr. Croke continued, "TDF glide path design helps
ensure that the risk is being taken at a time when the investor
has time to be compensated for it."
How Vanguard Target
Retirement Funds weather storms
"Periods of volatility provide an
opportunity for us to showcase how Vanguard Target Retirement
Funds can work for investors, even when conditions are
unsettling," says Scott Donaldson, senior investment analyst,
Vanguard Investment Strategy Group. "Our professionally managed
indexed Target Retirement Fund solution is continuously
rebalanced to track its benchmark. The rebalancing naturally
leads to selling bonds, which tend to go up in value when there
is market turmoil. On the other hand, Vanguard Target
Retirement Fund equities are generally purchased as they become
undervalued. By virtue of rebalancing to its long-term target
allocation, the Target Retirement Fund can benefit from an
old-fashioned buy-low, sell-high approach."
Left to their human nature,
investors unfortunately tend to do the opposite. "Investors
need to remember that volatility isn't necessarily bad," Mr.
Donaldson explains. "It depends on an investor's objectives and
if he or she is being 'paid' for the volatility."
"If you look at the global
financial crisis in 2008 and 2009, you saw some very good
things happening from a participant behavior standpoint," Mr.
Croke continues. "Most individuals stayed fully invested in
their target-date funds. And while clearly there were some
unnerving moments and capital losses that occurred on the way
down, by remaining fully invested, investors in target-date
funds were able to capture the seven-plus-year bull market in
equities that we've experienced since the depths of the
Source: Vanguard, Flight to
safety? Market volatility and target-date funds, March
Annualized equity abandonment rates is the average rate per
year that investors move assets out of equities.
Mixed target-date investors combine a target-date fund with
other plan investment options.
Constructed from four underlying
index fundsfive, in the case of
near-dated fundsVanguard Target
Retirement Funds combat volatility by diversifying globally in
equity and investment-grade-only bond markets. While other TDFs
may include more funds, Vanguard Target Retirement Funds
include about 26,000 securities. Our Target Retirement Funds
are not exposed to high-yield bonds, which sometimes behave
more like equities during times of volatility. We also avoid
trendy alternative asset classes, which may water down the
diversification benefits that can be provided by a
higher-quality investment-grade-only fixed income portfolio
without offering material advantages.
Vanguard's attention to keeping
costs low also benefits a participant's bottom line. Since
launching Target Retirement Funds in 2003, Vanguard has lowered
Target Retirement Fund costs by 30%. We accomplished this even
as we gradually expanded into non-U.S. equity and fixed income
markets, which are more expensive to own.
For rain or
We are never without weather. And,
we are never without potentially unsettling conditions that may
spark market volatility. Elections and referendums, terror
attacks, natural disasters, monetary policy developments, and
regulatory changes are but a few of the contributors to market
ups and downs.
TDFs can help your participants
avoid emotional reactions to such eventsreactions that
could disrupt their plans for retirement. By choosing and
sticking with TDFs, investors can mitigate the effect of
volatility over time. TDFs can be sound investments, come rain
²Cerulli and Associates, 2015.
For more information about Vanguard funds, visit
institutional.vanguard.com or call 800-523-1036 to obtain a
prospectus or, if available, a summary prospectus. Investment
objectives, risks, charges, expenses, and other important
information about a fund are contained in the prospectus; read
and consider it carefully before investing.
All investing is subject to risk, including the possible
loss of the money you invest. There is no guarantee that
any particular asset allocation or mix of funds will meet
your investment objectives or provide you with a given
level of income.
Diversification does not ensure a profit or protect
against a loss.
Investments in bonds are subject to interest rate,
credit, and inflation risk.
Past performance is no guarantee of future results.
Investments in Target Retirement Funds are subject to the
risks of their underlying funds. The year in the fund
name refers to the approximate year (the target date)
when an investor in the fund would retire and leave the
workforce. The fund will gradually shift its emphasis
from more aggressive investments to more conservative
ones based on its target date. An investment in the
Target Retirement Fund is not guaranteed at any time,
including on or after the target date.
© 2017 The Vanguard Group, Inc. All rights reserved.
Vanguard Marketing Corporation, Distributor of the Vanguard