How sub-optimal are age-based life-cycle investment products?
Date
2021
Authors
Khemka, Gaurav
Steffensen, Mogens
Warren, Geoff
Journal Title
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Publisher
Elsevier
Abstract
We investigate the conditions under which life-cycle investment strategies based on age may be ‘near enough’ to optimal, focusing on the treatment of the pension account balance and assumptions about risk aversion. We show that dynamically adjusting the strategy in response to fluctuations in balance as well as age can lead to moderate improvements over product designs currently seen in the market; although most of the potential gains might be captured by specifying the glide path with reference to measures reflecting the projected balance over time. The risk aversion assumption emerges as a far more important consideration, with much greater reductions in expected utility arising from mismatches between the risk aversion of the investor and that underpinning the glide path design. Our analysis suggests possibilities for improving life-cycle or target date funds, and highlights the benefit of offering a suite of such funds that cater for members with differing risk aversion.
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Keywords
Life-cycle models, Portfolio optimization, Investment product design, Target date funds
Citation
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Source
International Review of Financial Analysis
Type
Journal article
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Restricted until
2099-12-31
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