By Barbara O’Neill, Ph.D., CFP®, Rutgers Cooperative Extension, [email protected]
The Thrift Savings Plan (TSP) L (Lifecycle) Fund is a popular investment choice among service members. Also known as target date funds or TDFs, lifecycle funds are “all in one” portfolios that typically include three types of investment categories known as asset classes: stocks, bonds, and cash equivalents (e.g., money market funds). Their asset allocation weights (e.g., 50% stock, 30% bonds, 20% cash) automatically adjust and get more conservative (i.e., lower stock percentage) over time without any need for investors to take action.
Lifecycle funds typically have a date in their name such as the “2040 Fund” or “2050 Fund” and investors chose a fund with a date that matches, or is close to, their expected year of retirement. Dates are typically spaced out at 5- or 10-year intervals (e.g., 2030, 2035, etc.), depending on the lifecycle mutual fund provider. The TSP currently has five available lifecycle fund options: L2020, L2030, L2040, L2050, and L income.
Lifecycle funds, as an investment category, were created in 1994 and have gained popularity in the last decade as a qualified default investment alternative (QDIA) for tax-deferred retirement savings plans such as 401(k)s and, more recently, TSP accounts for new federal employees. Some employees who are enrolled in employer retirement savings plans fail to provide instructions for investing their deposits. In these situations, employers invest their plan contributions in the default investment.
Below are some key facts about lifecycle funds:
- They generally only make sense if they include the bulk of someone’s retirement savings. Otherwise, their asset allocation is altered by “outside” investments, which contradicts the whole premise of using them.
- A defining characteristic is their glide path, which determines the asset allocation mix over time. Pictured as a descending staircase, the glide path indicates how the stock percentage decreases over time.
- Glide paths are a critical factor in fund performance and investment companies use many types of glide path strategies to determine the percentage of stock in the fund portfolio at different points in time.
- “To” glide paths assume that retirement age is the target date and, at that point, the portfolio’s stock percentage weighting and investment mix remains static. “Through” glide paths continue to decrease the stock percentage for a designated number of years after the target date before leveling off.
- The “landing point” is the point in the glide path where a lifecycle fund reaches its lowest stock percentage allocation. Not surprisingly, funds with different glide paths and landing points have very different risk profiles. When a TSP L fund reaches its target date, it is automatically rolled into the L income fund, which is the most conservative L fund with a focus on capital preservation.
- Lifecycle funds are not without controversy. Performance issues during the 2007-2009 financial crisis brought to light the fact that many were not as conservatively positioned as their names implied. This led to new disclosure rules by the U.S. Securities and Exchange Commission in 2010, including better disclosure of glide paths and portfolio composition.
Do you want to know more about lifecycle funds and the TSP Lifecycle (L) Fund? The eXtension OneOp held a 90-minute webinar on target date funds in 2015. To view the webinar video archive, visit the event page.