Today we’re going to be talking about the Thrift Savings Plan Lifecycle Funds. Last Friday I wrote about target date funds. If you haven’t read that yet, make sure you do because it leads into this post. My military readers may have wondered whether we have any target date funds in the TSP. You’d better believe it!
Target Date Funds in the Thrift Savings Plan
Target date funds are known as Lifecycle (L) Funds in the TSP. There are five versions available: L Income, L 2020, L 2030, L 2040, and L 2050.
From the TSP website:
The L Funds, or “Lifecycle” funds, use professionally determined investment mixes that are tailored to meet investment objectives based on various time horizons. The objective is to strike an optimal balance between the expected risk and return associated with each fund.”
The L Funds are comprised of a mix of the G, F, C, S, and I Funds. Like with any target date fund, the purpose is to achieve the right mix based on the target date, in this case the projected retirement date. L Funds get more conservative as the target date approaches.
NOTE: All details provided about the L Funds in this post are current as of September 4th, 2017. Things will change. You can visit the TSP Lifecycle Funds page for up to date information.
The L Income Lifecycle Fund is designed for people who are already retired. It has traded growth for preservation of assets, meaning it is pursuing stability and reliability instead of continuing to grow the money. This can be seen in the high percentage of the portfolio that is in the G Fund: 74%! That means only 26% for stocks and bonds combined.
The L Income Fund is meant to keep pace with or slightly beat inflation, not grow over time, so it has a lower average expected return than other funds. It is also much lower risk. Since its inception in August 2005, the L Income Fund has an average annual return of 3.95%.
The L 2020 Lifecycle Fund is designed for people who plan to retire and begin withdrawing money beginning between 2018 and 2024. The objective is to balance moderate growth and moderate preservation of assets, since the time horizon is short.
The asset allocation is 38% stocks, 6.32% bonds, and 55.68% cash equivalents. In the case of the TSP, “stocks” means the C, S, and I Funds. “Bonds” means the F Fund, and “Cash” means the G Fund. In July 2020, the L 2020 will automatically roll into the L Income Fund and then follow the L Income asset allocation.
With its goal of some growth, some stability, the L 2020 has had moderate gains. Since its inception in August 2005, the L 2020 Fund has an average annual return of 5.15%.
Okay, now we are starting to move into the Lifecycle Funds that actually have some decent growth potential to them. The L 2030 is designed for people who will withdraw the money beginning in 2025-2034. The objective is moderate-to-high levels of growth and a low preservation of assets. That means you can expect higher highs and lower lows than with the L Income or L 2020.
The asset allocation is 62% stocks, 6.33% bonds, and 31.67% cash. That’s a BIG jump in stock allocation from the L 2020! Similar to the L 2020, in July 2030 the L 2030 will automatically roll into the L Income Fund and then follow the L Income asset allocation.
Because of its higher risk strategy, the L 2030 has had similar gains to the L 2020. Since its inception in August 2005, the L 2030 Fund has an average annual return of 5.56%. However, when you take away the precipitous fall of 2008, in which stocks suffered the most, this fund tends to return gains about 2% higher than the L 2020 on average – but with more risk.
The L 2040 Lifecycle Fund is fairly similar to the L 2030. It is designed for people who will begin withdrawing funds from the TSP between 2035-2044. The stated objective is high growth and low preservation of assets, but let’s see how well it has achieved that.
The L 2040 will automatically roll into the L Income Fund in July 2040. The asset allocation is 73% stocks, 6.42% bonds, and 20.58% cash. That theoretically means higher gains than L 2030, right?
Unfortunately, not really. Even with an extra 10% stocks and 10% less in cash, the average annual return since inception is nearly identical. Since its inception in August 2005, the L 2040 Fund has an average annual return of 5.81%. Even the 1-year, 3-year, 5-year, and 10-year averages are similar. Not too impressive when you consider the extra risk.
Finally, the “most aggressive” of the TSP Lifecycle Funds, the L 2050. The “most aggressive” is in quotes because it’s actually not that aggressive when you consider the timeline. The L 2050 is for people who will begin withdrawing their retirement funds after 2045. We are talking about 28+ years in the future, so the goal is high growth which should translate to high risk. Let’s see the actual asset allocation.
The L 2050 is 83% stocks, 5.32% bonds, and 11.68% cash. Now, the 83% stocks is about right, but having that much in the G Fund for someone with a time horizon 30ish years in the future seems…odd.
The L 2050 does have noticeably better returns since inception, though. Now, to be fair – the L 2050 wasn’t created until January 2011, so it missed the Great Recession. It doesn’t have a long history to analyze. But, since January 2011 it has returned 7.18%. Not too bad…for now.
Lifecycle Funds Investment Mixes
The L Funds are rebalanced each business day to make sure they match the intended investment allocation for that quarter. Then, each quarter the investment allocation is made slightly more conservative. The L Income Fund is the only exception; it is rebalanced daily, but does not get more conservative over time because it has already reached the planned allocation for retirees.
Are the TSP Lifecycle Funds too conservative?
One of the common complaints about the L Funds is that they are too conservative. Of course, whether or not you believe that is really going to depend on your own risk tolerance. But let’s look at it through the lens of the “120 minus your age” rule of thumb for asset allocation. This rule of thumb is designed to make sure you have an asset allocation that will allow you to grow your money quickly enough, without exposing you to too much risk.
This rule of thumb says your asset allocation should be determined by subtracting your age from 120. The remaining number is the percentage of your portfolio you should have in stocks. The rest will be split between bonds and cash.
Since most of my readers are ages 25-34, I’ll start there. A 30 year old using the “120 minus age” rule of thumb should theoretically have 90% of their assets in stocks. That’s pretty aggressive, and we can already see that none of the L Funds in the TSP have that high of a level of stocks. Even the L 2050, which is the most aggressive of the Lifecycle Funds, only has 83% in stocks. If you use another common rule of thumb – 110 minus age – you get closer.
On the opposite end of the spectrum, say you are a 55 year old looking to retire at age 65 in 2027. According to the Lifecycle Fund designs, you should be looking at the L 2030. 120 minus your age is 65. The L 2030 is 62% stocks, so that’s almost spot on. If you want the work done for you and are comfortable with that level of stock/bond/cash allocation, the L 2030 may be a very good choice.
If you are one of our newest military members (or another government employee) starting at age 18, the L Funds aren’t going to meet your needs for stock exposure as laid out by the 120 or 110 minus your age rules of thumb. But, they may meet your needs as a way to slide into the market in an easy way until you become more comfortable with investing.
One thing to remember is that you need to look at the bond/cash breakout, not just the stock percentage. In my opinion, the L Funds are more heavily weighted in cash than I’d like. I don’t know why the bond portions are so small. For instance, in the L 2030 for our fictional 55 year old, the stock allocation may be good but then almost 32% is in cash, with only a little over 6% in bonds. Why so much cash, TSP? Why?
My Experience with TSP Lifecycle Funds
When I first started investing in the TSP, I put 92% of all contributions into the L 2040 Fund (the L 2050 didn’t exist yet). I put 2% each into the C, S, I, and F funds just to see how they did, but I liked the thought of an experienced manager doing the work for me and the majority of my money. And I kept my money in L Funds for a long time. I’ve confessed before that I am a proudly lazy investor. I thought L Funds were the perfect solution.
The problem is that L Funds are (or might be) perfect for lazy people who are planning to retire on a normal timeline…past age 60, at least. That’s not me. And there are no L Funds available in the TSP that are aggressive enough to match my preferred investment allocation.
The TSP L Fund with the “most aggressive” asset allocation right now is the L 2050. The L 2050 currently puts 17% of the money in low- or no- investment risk investments. That means much lower potential for return!
Now, that allocation may be about right for someone my age who intends to retire around age 65. But not for me.
Personally, I want something with a much higher potential reward, so I’m willing to take on a lot more risk. That’s why I’ve stopped using the L Funds. They aren’t bad, they just don’t match my goals and risk tolerance. So I’ve stopped using them, but that doesn’t mean you shouldn’t consider them. They may be perfect for you and your goals.
The Best Part of TSP Lifecycle Funds
I don’t want to end this with you thinking that I hate the L Funds. I don’t, they just don’t work for my particular situation at this moment in time. But for a lot of investors, especially new investors who don’t have the knowledge to pick the “right” investment, the Lifecycle Funds can be a very good thing.
The good news is that when the Blended Retirement System debuts in 2018, all new accessions will be automatically enrolled into the Lifecycle Fund that most closely matches their expected retirement date. That’s a HUGE change from the current process, which puts all contributions into the G Fund. Ugh. 18 year olds should not be invested 100% into government securities. As always, people can change their allocation if they want to after the fact, but I’m happy to see the money going into something sensible from now on.
For everybody who isn’t a brand new accession: If you are investing in the TSP but you haven’t allocated your money, it’s going into the G Fund! Make sure you are sending your money where you want it to go! And where it can grow!
Gentle reminder: I am not a personal finance professional. You should always do your own research before making changes to your finances and talk to a professional if you need additional help. Please read my full disclaimer here.