Many retirement savers view target date funds (TDFs) as “one size fits most” and “set it and forget it,” and as a convenient substitute for asset allocation recommendations made by advisors. With $3.27 trillion in assets as of 2021, TDFs have won over the hearts and retirement savings of many Americans. But we believe advisors can do better for their clients.

TDFs have a target date, which investors often align with their projected retirement date, and they follow a fixed portfolio asset allocation glidepath that starts aggressively and transitions to a less risky portfolio as the target date nears. The aggressive allocation is often framed as providing early growth opportunities, while the conservative allocation is meant to provide security for the desired spend during the retirement period.

Sadly, we think neither of these goals—of growth and spending security—is likely to be met for many investors. And for clients seeking wealth optimization this “one size fits most” approach is not enough. A prepackaged growth strategy may offer convenience but it sacrifices many benefits of portfolio customization, like the ability to hold the underlying assets directly (and increased tax loss harvesting potential) or customize the riskiness of the portfolio. A bond fund offers convenience—and depending on bond maturity may be less volatile than equities—but does little to protect an investor’s unique spending needs. Finally, the allocation between growth and security misses some important client-specific factors, like whether wealth is sufficiently large that a growth-heavy investment is unlikely to endanger planned spending, or whether the spending plans are best served by a security tilt early on.

This is precisely where advisors can help: by customizing portfolios with the knowledge that they have for each specific client. And by adopting a smarter glidepath methodology, advisors can improve on TDF allocations in at least three ways: First, the conservative sub-portfolio can be constructed to consider the client’s specific spending goals and timing, providing additional spending security through a personalized bond ladder. Second, the growth-seeking sub-portfolio can be restructured to align with best-in-class portfolio construction. Finally, the glidepath allocation between the conservative and growth-seeking sub-portfolios can be responsive to client preferences and market conditions. We’ll dive into each briefly.

Personalized bond ladders offer an alternative to bond funds in TDFs. A personalized bond ladder can provide more efficient, effective security against a client’s specific spending plan. TDFs typically hold a collection of bond funds which themselves have a constant underlying target maturity. Bonds are risky assets and the misalignment between the timing of an investor’s desired spending and the duration and maturity of the bond holdings is likely to be material. A bond maturing in five years has reinvestment risk when matched against a spending goal 15 years in the future. A bond maturing in 10 years is excessively risky when matched against a spending goal five years in the future. Advisors can help investors seeking to secure future spending by using “immunization”—a method known well in the institutional investing space, in which a custom bond ladder is designed for the client’s specific spending plans. Immunization is designed to reduce the risk of spending shortfalls relative to a generic bond ladder and would likely provide additional security to a client’s portfolio.

For growth, TDFs are heavily weighted toward equities when the target date is distant. The diversification “free lunch” across asset classes, which is at the heart of modern portfolio theory, is ignored. Clients are likely to benefit from portfolio diversification—by gaining exposure to other asset classes like bonds that also have positive expected returns but may suffer shocks at different times than equities, reducing portfolio risk. Moreover, advisors can take client preferences into account in the growth portfolio when managed outside the TDF, perhaps tilting toward certain asset classes or adjusting equity holdings to help clients achieve their socially responsible Investing goals.

Finally, TDFs follow a mechanical glidepath no matter what situations arise in the market or for the client. In contrast, financial advisors can add value by dynamically reassessing and reallocating the client’s overall portfolio as retirement nears and markets evolve. If a client’s growth sub-portfolio outperforms, it may make sense to lock in some of the gains and reallocate to the security-seeking immunization bond ladder to reduce the risk of a spending shortfall. As the client’s spending needs near, advisors should gradually move toward securing a greater fraction of the client’s spend goals. But once their client’s spending goals are fully secured, there’s little reason to de-risk further, and advisors may be able to recommend a more aggressive overall growth posture.

None of this is easy. Managing custom bond ladders requires detailed knowledge of client cashflows, a working yield curve model, and careful portfolio management of individual bond positions. Optimization of the growth portfolio requires understanding client risk tolerance and, if customized, client preferences. The customized dynamic allocation between security and growth is likely best served with an algorithm that considers market movement and client inputs to guide investment decisions.

But the cost is worth it: the outcome is a strategy designed to outperform a standard target date fund whether the investor is growth-seeking, security-seeking, or somewhere between the two. Wealth optimization isn’t achieved through a one-size-fits-most approach, but rather through custom portfolios carefully constructed by a trusted financial advisor for each of their clients.

Roni Israelov is president and CIO of NDVR. Stephanie Lo is vice president of Research at NDVR.