blog

Growing Popularity of Asset Allocation Funds

By Steven Miyao

Over the last six months a number of our clients have added new asset allocation funds.

This trend is largely due to the rising popularity of these funds by investors who seem to like the simplicity of these products. The number of asset allocation funds has doubled since 2001; Morningstar reports that there are 247 asset allocation funds and 81 international hybrid funds, offered by 60 different money managers. According to Strategic Insight these types of funds attracted about $51 billion in new money in 2005, a 15.8 percent increase from 2004.

Asset-allocation funds are available through financial advisors, but are largely in 401(k) plans. This is primarily due to growing concerns that too many people are mismanaging their retirement money. These products enable the unsophisticated investor to leave their 401(k) plans on autopilot. Employers are often using lifestyle funds as the default investment option for automatic enrollment.

In 2005, 63% of 401(k) plans offered at least one asset-allocation fund, up from 35% in 2001 and 19% in 1997, according to Hewitt Associates. Balanced funds, meanwhile, have decreased in popularity, with 67% of plans offering this investment option in 2005, down from 72% in 2001 and 76% in 1997.

Yet, few 401(k) investors seem to be using these funds as the stand-alone investments they were intended to be. The average 401(k) plan participant with a lifestyle fund holds an average of 4.8 funds, according to 2003 data from Hewitt. Meanwhile, 32% of them hold more than one lifestyle fund and just 15% invest in a single lifestyle fund and nothing else, according to Hewitt.

There are two main types of asset-allocation funds:

* Lifestyle fund

* Target-date or life-cycle fund

Lifestyle fund invests partially in equities and partially in bonds, attempting to provide instant diversification for the life of the investment period. Balanced funds do the same thing, but lifestyle funds take it a step further, by allowing people to choose from a variety of asset-allocation strategies based on risk tolerance.

Target-date lifestyle funds are another evolution of this concept. Rather than choose your fund based on risk, which can change over time, you would choose it based on when you expect to retire. The fund would automatically grow more conservative over time, thus reducing need for the investor to monitor the portfolio.