Are the Thrift Savings Plan Lifecycle Funds Too Conservative?

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We’ve talked a lot about the Thrift Savings Plan and all of its investment options. The easy button is to just use a Lifecycle Fund or L Fund. Pick the approximate year you intend to retire, and use the L Fund with the year in its name that is closest to your retirement year.

For example, if you want to retire in 2038, you’d pick the L 2040 Fund because that is the one closest to 2038. Pretty simple.

Funds like the L Funds are called target date funds. Investopedia defines a target date fund as:

A target-date fund is a fund offered by an investment company that seeks to grow assets over a specified period of time for a targeted goal. Target-date funds are usually named by the year in which the investor plans to begin utilizing the assets. The funds are structured to address a capital need at some date in the future, such as retirement. The asset allocation of a target-date fund is therefore a function of the specified timeframe available to meet the targeted investment objective. A target-date fund’s risk tolerance become more conservative as it approaches its objective target date.

Target date funds have become super popular, but how do the TSP L Funds compare to other target date funds? In particular, how risky or conservative are they when it comes to their asset allocation? Let’s take a look and find out.

More Stocks = More Risk

The TSP L Funds only invest in two broad asset classes, stocks and bonds. The higher percentage of your portfolio you have allocated to stocks, the more risk you are taking.

How does the TSP L Fund stock allocation compare to similar funds at other investment companies? Here are the stock and bond allocation percentages for a few 2040 target date funds (rounded to the nearest whole percentage):

  • TSP L 2040 = 72% stocks, 28% bonds
  • Fidelity Freedom Fund 2040 (FFFFX) = 93% stocks, 7% bonds
  • Schwab Target 2040 Index Fund (SWYGX) = 82% stocks, 18% bonds
  • Vanguard Target Retirement 2040 (VFORX) – 83% stocks, 17% bonds

As you can see, the TSP L 2040 is by far the most conservative fund with only 72% stocks. The next closest is the Schwab fund at 82% stocks with Vanguard close behind at 83%. Fidelity wins the aggressiveness award for the 2040 target date.

Just Pick a Different Target Date?

If the conservative nature of the TSP L Funds bothers you, you can always dial up the risk by adjusting the target date you select. Just because you want to retire around the year 2040 doesn’t mean you can’t use the L 2050 fund. By picking it, you’d have a more aggressive asset allocation than the L 2040 but still get the benefits of a target date fund like automatic rebalancing and a gradually more conservative allocation as you age.

But if you look at the L 2050 fund, you’ll find its asset allocation to be 82% stocks and 18% bonds. In other words, the L 2050 is more conservative than two of the three 2040 funds listed above and the same as the one from Schwab. And since it is the most aggressive L Fund available in the TSP, it limits how aggressive you can get while using a Lifecycle Fund.

Why are L Funds so Conservative? Is it Appropriate?

The answer to the first question is because they are based on “based on professionally determined asset allocations.”

The answer to the second question, in my opinion, is probably not. While a conservative investor would have no issues with the L Fund asset allocations, a moderate or aggressive investor would, especially if they are staying in the military long enough to leave with a government guaranteed, inflation adjusted pension.

As we all know around here, that pension is extremely valuable. In addition, when viewed in the context of your entire portfolio, its safety could allow you to take more risk with the rest of your investments.

How Does This Affect You?

If you don’t use a L Fund, it doesn’t.

If you do use them, though, you should use them realizing that:

  • Among target date funds, they are conservative.
  • Even by picking the L Fund 2050, the most aggressive you can get your asset allocation will be 82% stocks and 18% bonds.
  • Despite all of this, they are still the easiest way to invest for retirement in the TSP.

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