The Fatal Flaw in Your Retirement Plan’s Target Date Funds

There was a major development in 2006 that transformed how Americans invest for retirement. It solved one problem, but created another that will be causing extra pain to people who retire in this economy.

The mid-2000s was the start of the nudge revolution, where policy makers thought they could coax people into more desirable behavior. The idea seemed especially promising when it came to saving for retirement, where research showed that automatically enrolling people in retirement accounts would increase saving and lead to better investment decisions.

So in 2006 the new Pension Protection Act allowed employers to enroll their workers by default into a 401(k) account or similar pension plan. Most plans placed people in target date funds, or TDFs, which were based on the premise that as you age, you should adjust your portfolio to lower risk. Accordingly, TDFs invest young people in stocks and gradually move them into bonds as they approach retirement.