Deciding which mutual funds are appropriate for a retirement portfolio requires a good understanding of investment strategies. Vanguard target-date funds do the work of rebalancing over time so investors don't have to. They start with an allocation favoring stocks in the early years of an investor's life cycle, typically 90% stocks and 10% bonds.
As an investor approaches his retirement age, Vanguard gradually rebalances its asset allocation in favor of less risky securities, such as bonds and short-term reserves. Vanguard target-date funds come with an average expense ratio of 0.10%. The industry average expense ratio for comparable target-date funds is 0.60%. Beginning in February 2015, Vanguard increased the international equity and fixed income allocations for its target-date funds to provide investors with improved global diversification.
The Vanguard Target Retirement 2025 Fund
The Vanguard Target Retirement 2025 Fund has a target date that ranges from 2021 to 2025. Because the fund is very close to its target date, its portfolio has a large number of bond holdings, which tend to be less risky when compared to stocks.
In particular, the fund invests in various Vanguard equity and bond funds, resulting in a 36.30% allocation to domestic stocks, a 24.20% allocation to international stocks, a 27.70% allocation to U.S. corporate and Treasury bonds, and an 11.80% allocation to international bonds. Domestic equity holdings of this fund are broadly diversified across the entire U.S. equity market.
Over the years, the Vanguard Target Retirement 2025 Fund, and Vanguard target-date funds, in general, tend to focus more on higher-quality bonds and Treasury inflation-protected securities (TIPS) compared to other fund families. This approach provides better protection of capital against volatility and real value erosion.
The Vanguard Target Retirement 2025 Fund has a four-star rating from Morningstar and an expense ratio of 0.13%. As the fund gets close to 2025, it plans to have higher asset allocation to bonds, in the realm of 50%. This fund is most appropriate for investors who are highly cost-conscious and plan to retire between 2023 and 2027.
The Vanguard Target Retirement 2040 Fund
The Vanguard Target Retirement 2040 Fund offers a one-stop broadly diversified portfolio with a target date between 2038 and 2042. Like other Vanguard target-date funds, this fund invests in four Vanguard index funds with asset allocations of about 85% in equities and 15% in corporate and sovereign bonds.
About 50.20% of the fund's assets are allocated to domestic equities, while 33% are dedicated to international equities. There is a 12% allocation in U.S. corporate and Treasury bonds and a 4.80% allocation of international bonds. As the fund is nearly 20 years away from its target date, it will continue allocating more assets to risky securities in the next five to 10 years.
The Vanguard Target Retirement 2040 Fund has an expense ratio of 0.14% and it has a four-star rating from Morningstar. Due to Vanguard's larger emphasis on international bonds and international equities, the fund provides broader diversification and better return prospects in the long run, as overseas markets—especially emerging markets—tend to grow faster compared to developed markets.
The Vanguard Target Retirement 2040 Fund is most appropriate for investors whose target retirement is between 2038 and 2042 and would like to invest in one fund and not have to worry about rebalancing until their retirement.
The Vanguard Target Retirement 2055 Fund
The Vanguard Target Retirement 2055 Fund offers lifecycle asset allocation for investors with specific retirement dates. This fund is most attractive for investors who just started their careers and have over 40 years before retirement. As the fund is very far from its target date, 90% of its assets are allocated to domestic and international stocks. The remaining 10% of its assets are split between U.S. and international bonds. The fund is likely to stick to such aggressive allocation until 2030-2035; after that, it will start smoothly adjusting its allocation every year toward bonds.
The Vanguard Target Retirement 2055 Fund has an expense ratio of 0.15% and a four-star rating from Morningstar. This fund is most appropriate for investors who desire automatic asset rebalancing at a low cost and who are not planning to retire until between 2053 and 2057.