Should I Invest in a Target Date Index Fund?

Summary

Ramsey Everyday Millionaires
Episode: Should I Invest in a Target Date Index Fund?
Release Date: March 5, 2025
Host/Author: Ramsey Network

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Introduction

In this insightful episode of Ramsey Everyday Millionaires, the hosts delve into a common investment dilemma faced by many: whether to invest in a target date index fund or stick with an S&P 500 index fund for retirement savings, specifically within a Roth IRA. Drawing from real listener questions and expert opinions, the discussion provides valuable guidance for individuals aiming to maximize their investment growth while managing risk.

Listener Question

Timestamp [00:15]

The episode kicks off with a question from Derek, who shares his New Year's resolution to max out his Roth IRA contribution. At 30 years old, Derek is contemplating whether to invest in a target date index fund, which automatically adjusts risk as one ages, or to invest directly in an S&P 500 index fund. Derek seeks clarity on which option would be more advantageous for his long-term financial goals.

Host's Analysis and Opinion

Timestamp [00:42] – [02:12]

The hosts engage in a detailed analysis of Derek's query, presenting a nuanced perspective on target date funds versus S&P 500 index funds.

1. Critical View of Target Date Funds

   Timestamp [00:43] – [01:30]

   • One host expresses skepticism towards target date funds, highlighting that these funds typically start with a high allocation to equities (stocks) and gradually shift towards more bonds as the investor ages.
   • Quote:
     "They start out with mostly equities, right? Stocks. And over time they'll start to introduce more bonds into the equation which will reduce your quote unquote risk, but it also reduces your returns."
     — Host B [00:43]
   • The concern is that this gradual shift stunts the growth of the investment account, potentially leading to insufficient funds during retirement when income is needed.

2. Advocacy for Staying Heavily Invested in Equities

   Timestamp [00:43] – [01:30]

   • The host argues for maintaining a strong equity presence, especially for younger investors like Derek.
   • Quote:
     "For a young 30 year old, you want to stay heavily invested in the stock market versus moving towards those bond funds."
     — Host B [00:43]
   • Emphasizes that equities, particularly through the S&P 500 index, offer greater growth potential which is crucial for accumulating wealth over a longer investment horizon.

3. Alternative Investment Strategies

   Timestamp [01:30] – [02:07]

   • Suggests that upon reaching retirement age (e.g., 60 years old), individuals should consult with their financial advisors to determine an appropriate bond allocation based on their current risk tolerance.
   • Quote:
     "If you talk to your financial advisor at 60 and you take into account your risk tolerance and all that, they might go, hey, let's put you in 20%, 30% bonds, whatever."
     — Host B [00:43]
   • Recommends favoring S&P 500 index funds for their robust growth potential over target date funds, especially within retirement accounts.

4. Benefits of S&P 500 Index Funds

   Timestamp [01:30] – [02:07]

   • Highlights that S&P 500 index funds are excellent for growth in retirement accounts and are also beneficial in taxable brokerage accounts due to their low turnover and lower tax implications.
   • Quote:
     "Mutual funds are great in those retirement accounts... you're talking about a taxable brokerage account outside of retirement. That's where the index funds really come in handy because they're low turnover and you'll have lower tax implications on that."
     — Host B [01:30]

Hosts' Consensus

Timestamp [02:07] – [02:12]

Both hosts align on the recommendation for Derek:

• Host B: Advises against target date funds and supports maintaining a heavy investment in equities.
• Host A: Echoes the sentiment, reinforcing the preference for S&P 500 index funds over target date funds.

Quote:
"Couldn't agree more."
— Host A [02:27]

Concluding Insights

The discussion underscores the importance of active management and informed decision-making in retirement investing. While target date funds offer a set-it-and-forget-it approach, the hosts advocate for a more strategic investment in equities, particularly for younger investors aiming for significant growth over time. This approach aligns with the broader philosophy of building extraordinary wealth through disciplined and responsible investment practices.

Key Takeaways

• Target Date Funds: Automatically adjust asset allocation over time but may limit growth potential for long-term investors.
• S&P 500 Index Funds: Offer higher growth potential and are tax-efficient, making them a preferable choice for those committed to actively managing their retirement investments.
• Investment Strategy: Younger investors should consider maintaining a larger equity allocation, consulting financial advisors as retirement approaches to adjust for risk tolerance.

Notable Quotes

1. "They start out with mostly equities, right? Stocks. And over time they'll start to introduce more bonds into the equation which will reduce your quote unquote risk, but it also reduces your returns."
   — Host B [00:43]

2. "For a young 30 year old, you want to stay heavily invested in the stock market versus moving towards those bond funds."
   — Host B [00:43]

3. "Mutual funds are great in those retirement accounts... you're talking about a taxable brokerage account outside of retirement. That's where the index funds really come in handy because they're low turnover and you'll have lower tax implications on that."
   — Host B [01:30]

4. "Couldn't agree more."
   — Host A [02:27]

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Stay Informed and Invest Wisely

For more insights on building and maintaining wealth, tune into future episodes of Ramsey Everyday Millionaires and connect with investment professionals through the Ramsey Network.

Transcript

[A]

Foreign.

[B]

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[A]

Question is from Derek. Today Derek writes, my new year's resolution is to max out my Roth IRA contribution. I'm 30 years old and I want to know if it's best to contribute to a target date index fund that will automatically adjust risk as I age or should I just invest in an S&P 500 index fund?

[B]

Great. Nerdy question from our friend Derek. He is doing the research.

[A]

Yes, he has.

[B]

Okay, so I'll give you, I'll give you one man's take on this. I am personally not a fan of target date funds. And here's what they do. They start out with mostly equities, right? Stocks. And over time they'll start to introduce more bonds into the equation which will reduce your quote unquote risk, but it also reduces your returns. So think about this. You get to retirement age at 60 and you could make it to 90. So for the next 30 years, you've basically stunted the growth of that account to the point where it might run out. And so here's my take and Dave would back me up on this. It's wise to just stay invested heavily in equities. Now if you talk to your financial advisor at 60 and you take into account your risk tolerance and all that, they might go, hey, let's put you in 20%, 30% bonds, whatever. But I'm not a fan of target date index funds. Doing that on your behalf, especially at a, for a young 30 year old, you want to stay heavily invested in the stock market versus moving towards those bond funds. So yeah, S&P 500 index fund is great growth stock. Mutual funds are great in those retirement accounts. Mutual funds are, are awesome. Like you're talking about a taxable brokerage account outside of retirement. That's where the index funds really come in handy because they're low turnover and you'll have lower tax implications on that. So great question, Derek. I'm going to go with no to the target date fund and yes to staying in the equities, my friend.

[A]

I'm going with what he said.

[B]

A lot of nerd speak.

[A]

Well done, sir.

[B]

But a lot of you should do.

[A]

This for a living.

[B]

Well, a lot of people just, they set it and forget it. That's the beauty of target date funds. And you can do worse. It's not a like terrible, terrible thing. Right? But my take is you want to stay, I want to keep that 10 to 12% return instead of getting a 34 5% return retirement.

[A]

Couldn't agree more.

[B]

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