What is Glide Path
Glide path refers to a formula that defines the asset allocation mix of a target-date fund, based on the number of years to the target date. The glide path creates an asset allocation that typically becomes more conservative (i.e., includes more fixed-income assets and fewer equities) as a fund gets closer to the target date.
Target Date Funds
Target date funds have become popular among those who are saving for retirement. They are based on the simple premise that the younger the investor, the longer the time horizon he or she has before retirement, and the greater the risk he or she can take to increase returns potentially. A young investor's portfolio, for example, should contain mostly equities. In contrast, an older investor would hold a more conservative portfolio, with fewer equities and more fixed-income investments.
Glide Path Specifics
Each family of target-date funds has a different glide path, which determines how the asset mix changes as the target date approaches. Some have a very steep trajectory, becoming dramatically more conservative just a few years before the target date. Others take a more gradual approach.
The asset mix at the target date can be quite different as well. Some target-date funds assume that the investor wants a high degree of safety and liquidity because he or she might use the funds to purchase an annuity. Other target-date funds assume that the investor holds onto the funds, and therefore includes more equities in the asset mix, reflecting a longer time horizon.
Types of Glide Paths
- Declining Glide Path: An investor who uses a declining glide path gradually reduces their allocation of equities each year they get closer to retirement. For example, at age 50, an investor who holds 40% equities in his or her portfolio may reduce their equity allocations by 1% each year. They would then increase their allocation of safer assets, such as Treasury bills.
- Static Glide Path: A portfolio that uses a static glide path maintains the same allocations. For instance, an investor may hold 65% equities and 35% bonds. If these allocations deviate due to price changes in the assets, the portfolio is rebalanced. (To learn more, see: Strategic Asset Allocation to Rebalance Portfolios.)
- Rising Glide Path: Portfolios that use this approach initially have a larger allocation of bonds compared to equities. The equity allocation increases as the bonds mature, as long as the stocks in the portfolio don’t decrease in value. For example, an investor’s portfolio might start with an allocation of 70% bonds and 30% equities. After a large portion of the bonds matures, the portfolio may hold 60% equities and 40% bonds.