Monday, September 14, 2009

Vanguard Target Funds Get Rated

Last June, we installed Vanguard Target Funds onto the TAG 401(k) Plan platform; it turned out to be a good move.

Morningstar Inc. last week launched ratings and research reports for 20 of the largest target date mutual funds — and identified The Vanguard Group Inc. as the best target date provider for investors, based on such criteria as management, fees and performance ...

Morningstar assigns one of five ratings for each component: top, above average, average, below average or bottom.

Based on the five component ratings, each target date fund group earns an overall rating using the same grade scale.

The Vanguard Target Retirement funds employ best practices with low fees, a high level of transparency and prudent, investor-oriented management, according to Morningstar's research.

Vanguard's high-quality orientation was an important factor last year, when its target date funds performed relatively well despite holding a stock allocation similar to many of its peers, Morningstar said. The company's long-tenured managers also bolster the funds' appeal ...

It's always pleasant when something you push for and push for finally gets done ... and then pays off.

Not that the Target Funds didn't (and don't) take hits. When every equity market goes down, quality funds also go down. But the point is that Vanguard's low costs really come into play for investors. If your fund is taking 1-1 1/2% off the top, twenty years further on you'll have lost a tidy little bundle.

Vanguard's low fees (.19%) are a big plus, but there are still 401(k) participants' understandable fears about investing in stocks:

... [T]he classic 60-40 split between stocks and bonds—the formula that many balanced funds use to allocate investments—ignores alternative asset classes that can deliver returns with different levels of risk.

"The whole 60-40 idea is almost like Betamax videotapes—it's now passé," says Andrew Silverberg, co-manager of Alger Balanced Fund. "It gained popularity while we were still in a bull market." ...

Gibson Smith, co-chief investment officer at Janus Capital Group and co-manager of Janus Balanced Fund, doesn't stick with the 60-40 formula either. "We're not just about driving returns, but also preserving capital," he says.

Late last year, Janus Balanced held 60% bonds and 40% stocks. While a 60-40 split between stocks and bonds is the nominal default of the fund, "we like having the flexibility" of ignoring that standard based on risk-reward profiles, says Mr. Smith. As of July 31, the fund was 55% in stocks and 45% in bonds ...

Bond investors are ... ahead of stock investors over the past five and 10 years—challenging the view that stocks beat bonds over longer periods. Over the past five years, the S&P 500 returned an average 0.1% a year, while the Barclays bond index returned an average 5%. Over the decade, the stock measure fell an average 3.7% a year, while the bond gauge returned an average 6.3%.

For many, the issue is where you are in your career. If you're a twenty or thirty-something animation artist, a big drop in the old stock portfolio is a bummer but not the end of the world. If you're sixty-two, however, losing half your painfully acquired capital in a couple of weeks can be gut wrenching (The sixty-two year-old -- unless he's Joe Grant -- doesn't have the years left to rebuild the money stash.)

I think the "proper" allocations of stocks and bonds depends on your stomach for risk, also your age. If you're somebody who can't sleep or hold down solid food when stocks all of a sudden drop 40%, then maybe you should weight your investments toward bonds (and intermediate or short-term bonds at that.)

There is no perfect allocation, because investment returns always vary and present a constantly moving target. I'm a big believer in having some exposure to stocks; over time they lower your risk and goose returns. (Even Vanguard Target Income has a 30% exposure to domestic and foreign equities.)

But ultimately the choice is yours. You want to keep everything in Bank Certificates of Deposit, you go right ahead and do that.


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