IDEAS home Printed from
MyIDEAS: Log in (now much improved!) to save this paper

Using Participant Data to Improve 401(k) Asset Allocation

Listed author(s):
  • Zhenyu Li
  • Rebecca Anthony Webb
Registered author(s):

    Economic theory says that participants in 401(k) plans should gradually rebalance their portfolios away from stocks towards less risky bonds as they approach retirement. The rationale is that at younger ages households hold a substantial portion of their wealth in the expected present value of their remaining lifetime earnings, which are generally viewed as a relatively low risk asset, so they should hold much of their financial assets in high risk/high return stocks. As households approach retirement, the value of the earnings asset declines, so they should compensate by rebalancing their investment portfolios away from stocks and into bonds. Many households fail to rebalance their portfolios as they age, reflecting both inertia and lack of investment skills. In response, 401(k) plans offer life-cycle, or target date, funds which automatically rebalance the household’s portfolio with age. Conventional target date funds take into account only one aspect of an individual – namely, the person’s expected retirement date. In fact, the plan provider knows additional information about the individual, including his earnings, the balance in his 401(k) account, and his saving rate. This brief compares how much a conventional (“one-size-fits-all”) target date fund improves the outcome compared to the asset allocation that individuals would choose on their own and how much taking into account the additional information improves the outcome compared to the one-size fits-all target date fund. This brief, adapted from a new paper, proceeds as follows. The first section establishes the benchmark – expected lifetime utility from an optimal investment strategy – against which each 401(k) investment option is compared. The second section describes the horse race in which the outcomes for each of the three allocation approaches are compared to the benchmark. The third section suggests two additional adjustments – basing portfolios on estimated household characteristics rather than relying solely on participant data and taking into account the riskiness of the participant’s earnings – that would bring outcomes closer to the optimal. The final section concludes that a target date fund is better than leaving the household on its own and that adding information to the one-size-fits-all target date fund can bring the outcome even closer to the optimal for the great majority of households.

    If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

    File URL:
    Download Restriction: no

    Paper provided by Center for Retirement Research in its series Issues in Brief with number ib2012-17.

    in new window

    Length: 6 pages
    Date of creation: Sep 2012
    Date of revision: Sep 2012
    Handle: RePEc:crr:issbrf:ib2012-17
    Contact details of provider: Postal:
    Hovey House, 140 Commonwealth Avenue, Chestnut Hill, MA 02467

    Phone: (617) 552-1762
    Fax: (617) 552-0191
    Web page:

    More information through EDIRC

    No references listed on IDEAS
    You can help add them by filling out this form.

    This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

    When requesting a correction, please mention this item's handle: RePEc:crr:issbrf:ib2012-17. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Amy Grzybowski)

    or (Christopher F Baum)

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If references are entirely missing, you can add them using this form.

    If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.