Target Date Funds, and How to Improve Them

Human capital is an important component of the investor’s total portfolio, of which the financial portfolio constitutes only one part. The value of human capital, which is typically considered “bond like”, generally declines after middle age. Thus, in order to keep the asset allocation in the total portfolio constant over time, investors should decrease the allocation to equities in their financial portfolios. Target date funds offer a convenient way to do so: they follow a predetermined linear “glide path” of reducing the allocation to equities. However, linear glide paths are sub-optimal. Switching from linear to exponential glide paths typically improves investors’ welfare by 10–30%.