Portfolio Navigation: A Superior Strategy for Retirement Planning

Jim Kaffen

Wed Sep 25 2024

Target Rate Funds (TRFs) use Portfolio Navigation to continuously adjust portfolios based on market conditions and the unique financial goals of each participant. This article follows the path of an individual investor, contrasting real-life gains from Target Date Funds (TDFs) and Target Rate Funds.

Retirement planning requires a strategic approach to navigate the complexities of achieving future financial goals. In a landscape dominated by age-based solutions like Target Date Funds (TDFs), investors often miss out on more effective strategies designed to meet their specific return needs. Target Rate Funds (TRFs), which use Portfolio Navigation, provide a dynamic solution to ensure participants can stay on track, even in volatile market conditions.

Consider the example of Martha, a 57-year-old participant with $700,000 in her 401(k), planning to retire at 65. This example demonstrates how even individuals nearing retirement can recover from market downturns while pursuing the goal of replacing their income in retirement. Martha’s situation could be anyone’s, and it illustrates why Target Rate Funds, with their ability to adjust through Portfolio Navigation, are a better approach compared to the static strategies of TDFs.

Martha’s Journey through the 2008 Market Decline

At the beginning of the 2008 crisis, Martha’s portfolio consisted of 70% equities (S&P 500/SPY) and 30% bonds (iShares Short-Term Bond Fund/SHY). If Martha had been in a TDF, she would have been kept in the same portfolio until age 60, at which point she would have been placed in a more conservative allocation. However, during the 2008 market decline, this lack of flexibility would have limited her ability to respond to market conditions.

In contrast, Target Rate Funds, using Portfolio Navigation, would have recalculated Martha’s Target Rate as the market declined, making strategic adjustments to her asset allocation to help her recover. As her portfolio dropped to $613,939 in September 2008, her Target Rate would have increased to 9.6%, prompting a shift to 80% equities (SPY) and 20% bonds (SHY).

By December 2008, after further losses reduced her portfolio to $513,675, the Target Rate would have been recalculated to 12%, with a corresponding adjustment to 90% equities and 10% bonds. This strategic reallocation during the downturn would have given Martha the best chance to recover her portfolio’s value as the market rebounded.

Recovering by 2011 and Beyond

While the S&P 500 was still down over 7% in 2011, Martha’s dynamically adjusted portfolio fully capitalized on the market’s recovery. By February 2011, her portfolio had reached $746,889—$46,889 more than her initial $700,000, despite the broader market still being down. This example shows how Target Rate Funds can provide the necessary flexibility for someone nearing retirement to recover from market declines while still pursuing their financial goals.

If Martha had remained in a TDF, the conservative shift would have left her far short of this outcome.

Why Target Rate Funds with Portfolio Navigation Are Superior for Investors of All Ages

Target Rate Funds (TRFs) use Portfolio Navigation to continuously adjust portfolios based on market conditions and the unique financial goals of each participant. Unlike Target Date Funds (TDFs), which follow a predetermined age-based glide path, TRFs dynamically optimize asset allocations to meet specific return objectives, ensuring that investors remain on track to achieve their financial goals.

For someone like Martha, who faced significant market declines late in her working years, Target Rate Funds would have provided the necessary flexibility to recover while still working toward replacing her income at retirement. This tailored, goal-based approach ensures that portfolios adapt to changing circumstances, making the right adjustments at the right time.

Will the Industry Recognize the Value of Portfolio Navigation?

Although Portfolio Navigation offers clear advantages, it is a relatively new concept that the investment industry may not yet fully recognize or understand. As I discussed in my previous article, Why Hasn't the Investment Industry Moved Beyond the Mean-Variance Framework?, the industry is often slow to adopt innovative strategies, especially when long-established frameworks like mean-variance optimization still dominate.

Target Rate Funds, utilizing Portfolio Navigation, represent a breakthrough approach that aligns more closely with individual financial goals and changing market conditions. While the industry’s slow adoption of new methods may delay broader acceptance, the benefits for investors seeking a personalized, flexible investment strategy are undeniable.

Conclusion

Martha’s story illustrates why Target Rate Funds, powered by Portfolio Navigation, are the best investment strategy for investors of any age. Unlike Target Date Funds, which often overlook individual needs, Portfolio Navigation focuses on achieving specific return goals and adjusting dynamically to market conditions.

By prioritizing the Target Rate over a rigid, age-based approach, Portfolio Navigation helps investors recover from market downturns and stay on course to meet their financial objectives.