Perspectives : Investment | July 08, 2021

Answering crucial target-date fund questions

We've hosted several webcasts this year that featured Vanguard experts discussing the strategies of the Vanguard target-date funds (TDFs). The sessions were packed with information and conversations, but there wasn't enough time to answer all the attendees' questions. We sat down with Senior Product Manager Brian Miller and Head of Vanguard Investment Analysis and Operations Martin Kleppe to answer some of the questions asked during and after the webcasts.

1. When participants are nearing or in retirement, do Vanguard TDFs generate income by overweighting higher yielding sectors of the bond market and/or dividend-paying stocks?

The short answer is no, our TDFs do not increase exposure to high-yield bonds or dividend stocks to generate more income during retirement. While high-yield bonds may provide higher returns, they also come with added liquidity and default risk, and poor performance in this sector of the bond market tends to be highly correlated to equities.

Similarly, additional exposure to dividend stocks, including real estate investment trusts (REITs), could provide income. However, these stocks can represent a sizable overweight of a concentrated sector and potentially higher risk. The benefits of extra income from these sub-asset classes are, in our opinion, outweighed by the risks they present.

2. With the forecast for fixed income returns remaining below historical norms, is Vanguard considering alternative asset classes that may offer higher total returns and risk mitigation that high-quality fixed income may no longer be able to provide?

We are always evaluating our allocation strategy to ensure it aligns with the needs of our TDF investors and will continue to explore opportunities outside our current methodology. However, after rigorous research and review, there are select sub-asset classes that we have decided to exclude at this time.

Our retirement funds currently provide the industry's broadest global diversification in the TDF space, covering nearly 90% of global liquid market capitalization1. And unlike many other TDFs, we also include an allocation to international bonds.

Taking the long-term view, it's clear that a diversified portfolio of investment-grade bonds remains one of the best ways to provide some equilibrium for long-term investments such as TDFs. Bonds have proven to be a reliable and steadying influence through every economic and market cycle—reducing the negative volatility that stocks inevitably experience from time to time and easing anxiety for investors about their decisions.

3. What would be the impact of unexpected or rising inflation on your target-date fund performance?

In our TDFs, we use certain asset and sub-asset classes to hedge against inflation risk. One of these classes is short-term TIPS (Treasury Inflation-Protected Securities). Our research shows short-term TIPS can help manage inflation risk by providing a higher correlation to both expected and unexpected inflation with significantly less volatility compared with commodities.

4. Does Vanguard expect the tremendous TDF growth of the past to continue?

We think so, and the data supports that. In 2020, 54% of Vanguard participants held a single TDF. That number jumps to 84% if you only count new entrants with professionally managed allocations.

Participants with professionally managed allocations
Vanguard defined contribution plans

Source: Vanguard, 2021.

The data above, and other factors, point to this trend of growth continuing.

5. How have Vanguard TDFs done from an asset gathering and outcomes for participants perspective?

First, our TDFs are at the top when it comes to asset gathering. Our funds hold more than $1 trillion in assets, accounting for 37% of all TDF assets under management in the industry2.

Second, we're happy and proud of the outcomes our TDFs have produced for investors. Our TDF investors, compared with do-it-yourself investors, have had much more consistent risk-adjusted returns and are likely to be allocated more appropriately.

Risk and return characteristics for DC plan participants during five years through 2020

Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot invest directly in an index.
Note: Each panel includes a random sample of 1,000 of participant accounts drawn from respective samples. Each panel excludes 1/2% top and 1/2% bottom outliers for both risk and return, for a net sample of 980 observations in each panel.
Source: Vanguard, 2021.

U.S. stocks are represented by the MSCI US Broad Market Index, non-U.S. stocks are represented by the MSCI AC World Index ex US, and U.S. bonds are represented by the Bloomberg Barclays US Aggregate Bond Index.
Past Index returns do not reflect fees and expenses but do reflect reinvestment of dividends, capital gains, and interest. Indexes are unmanaged; therefore, direct investment is not possible.

6. Although Vanguard is known for passive indexing, you also have excellent actively managed funds. Does Vanguard have plans to introduce an actively managed target-date fund series?

Similar to our approach to the glide path, we are always researching how our TDFs can provide clients with the solutions that meet their needs and best help them achieve their goals. We recognize there are many plan sponsors and participants who have different levels of risk tolerance. And introducing an actively managed TDF series is certainly something we are discussing. If or when we make that decision, plan sponsors and participants can rest assured we will follow our investing philosophy and our core mission of putting the investors first.

7. How did Vanguard TDFs perform in the midst of the 2020 market volatility?

Part of our TDF design is to help investors weather the storm that comes with market volatility. For example, Vanguard Retirement Income Fund performed better than the Morningstar Target-Date Income Averages for both index-based and active TDFs.

Performance during notable equity market drawdowns

The performance data shown represent past performance, which is not a guarantee of future results. Investment returns and principal value will fluctuate, so investors' shares, when sold, may be worth more or less than their original cost. Current performance may be lower or higher than the performance data cited. See fund performance data current to the most recent month-end. The performance of an index is not an exact representation of any particular investment, as you cannot invest directly in an index.
Sources: Vanguard and Morningstar, as of June 30, 2021.

8. Vanguard TDFs' performance is quite wide relative to their respective composite benchmarks. Why is this?

While index-based TDFs are constructed with index funds, they themselves are not index funds and thus are not managed like index funds. The benchmark implementation and rebalance policies for Vanguard Target Retirement Funds seek to emphasize investor outcomes—reducing costs, delivering the expected asset allocation experience, and increasing investor wealth—over the optics of tightly tracking an uninvestable benchmark.

While other TDF strategies, like rebalancing monthly, can give the appearance of tighter tracking to a benchmark, they also risk substantial variations from the target strategic asset allocation between rebalances. We rebalance our benchmark daily because we believe it provides the best representation of the glide path each day of the month.

9. You mentioned your rebalance frequency is daily. How exactly do more and smaller transactions save transaction costs for consumers?

It's not so much about saving on transaction costs as much as it is about striking the optimal balance between minimizing transaction costs and closely maintaining the target strategic asset allocation on a daily basis. Seeking the appropriate method is an exercise in identifying the rebalancing "trigger point" beyond which the value of rebalancing (maintaining the target strategic asset allocation) outweighs its cost (transaction costs).

10. Can you expand on why you have increased the tracking error for your TDFs from 75 bps to 200 bps?

Like the rebalancing question above, our methodology weighs the cost of trading against the benefit to investors. If the cost is too high, the fund may trade briefly outside the rebalance policy asset weights.

Competitors that rebalance monthly or quarterly may realize portfolio weights that are significantly misaligned with target weights between rebalance periods, leading to an investment experience that may track tightly, but differ from expectations. Our approach emphasizes investor outcomes—providing an expected strategic asset allocation while minimizing transaction costs—over the optics of tightly tracking a composite benchmark. This is similar to our approach to TDFs broadly, where achieving the best outcomes for our investors is paramount.

11. Are there any products or trends that could displace TDFs?

In an industry that changes as much as the retirement industry, we can't say "no" with 100% certainty. But as the earlier chart shows, TDF adoption is still rising and we don't see it slowing down in the near future.

However, there is potential for innovation within the TDF ecosystem. So while we don't foresee a different product replacing TDFs, new TDF products and strategies are certainly on the table. We are always researching ways to improve them and innovate as we try to produce the best outcomes for investors.

12. What distinguishes Vanguard's TDFs from the competition?

First, our investors own our funds. Our funds own Vanguard.3 What that means is that we sit on the same side of the table, so the conversations we have and decisions we make start and end with what is best for our investors.

Second, our Target Retirement Funds are designed to give the greatest number of participants the ability to achieve a successful retirement. Every exposure, every design element, is deliberate and meant to achieve that one goal.

And third, our time-tested performance. The most recent Morningstar Target-Date Fund Series Report shows the funds in our series topped roughly 80% of peers, on average, over the trailing 10-, 5-, and 3-year periods through January 2021.4

1 Source: Bloomberg, March 31, 2021. Broadest global diversification is determined by comparing the global liquid market coverage across target-date fund providers.
2 Sources: Vanguard and Morningstar, as of December 31, 2020.
3 Vanguard is investor-owned. Investor-owned means that fund shareholders own the funds, which in turn own Vanguard.
4 Source: Morningstar Target-Date Fund Series Report, as of March 3, 2021. Results will vary for other time periods. All funds in the Morningstar peer group with a minimum 3-, 5-, or 10-year history, respectively, were included in the comparison. There may be other material differences between products that must be considered prior to investing. Note that the competitive performance data shown represent past performance, which is not a guarantee of future results, and that all investments are subject to risks. For the most recent performance, visit our website at


  • All investing is subject to risk, including the possible loss of the money you invest.
  • Diversification does not ensure a profit or protect against a loss. Be aware that fluctuations in the financial markets and other factors may cause declines in the value of your account. 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.
  • 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.
  • Vanguard is responsible only for selecting the underlying funds and periodically rebalancing the holdings of target-date investments. The asset allocations Vanguard has selected for the Target Retirement Funds are based on our investment experience and are geared to the average investor. Regularly check the asset mix of the option you choose to ensure it is appropriate for your current situation.
  • Investments in bonds are subject to interest rate, credit, and inflation risk. While U.S. Treasury or government agency securities provide substantial protection against credit risk, they do not protect investors against price changes due to changing interest rates. Unlike stocks and bonds, U.S. Treasury bills are guaranteed as to the timely payment of principal and interest. Investments in stocks or bonds issued by non-U.S. companies are subject to risks including country/regional risk and currency risk.