Target Retirement Funds & Balanced Funds

Should everyone have the same portfolio independent of his or her age? The answer to this question is academically not clear. However, in practice, people seem to understand the question perfectly. Several major mutual fund families have introduced the target retirement funds. One very interesting thing is that the target retirement funds have very different portfolios for people before entering the retirement age. After retirement, everyone has the same portfolio. In the case of Vanguard, there are now over 10 target retirement funds ranging from 2005 to 2050. But there is only one fund for after 2005.

Theoretically, the optimal portfolio should consider two independent variables: asset values and asset returns. Savors invest every year a fixed or variable amount of money to their retirement funds while retirees withdraw a fixed or variable amount of money from their retirement funds. So the optimal portfolio should consider both cases differently. In both cases, the optimal portfolio should maximize the product of asset values times asset returns. In the savors case, Asset value is composed of the sum of two terms, the asset value from the end of previous period and the new investment during the previous period. In the retiree case, Asset value is composed of the difference of two terms, the asset value from the end of previous period minuses the new withdrawal during the previous period.

So if the target retirement funds are programmed right, they should treat the retirees differently just as they treat the savors differently. I believe there is a flaw in this program. Actually, academic studies have concluded that the target retirement funds with equity weight varying from 80% for young people to 20% for retirees would have similar returns for portfolios with 50% equity and 50% bonds, which are just regular balanced funds.