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Article

Improving on Defaults: Helping Pension Participants Manage Financial Market Risk in Target Date Funds

Pension Policy Center, Washington, DC 20016, USA
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Author to whom correspondence should be addressed.
Academic Editors: Jorge Miguel Bravo and Tomas Kliestik
Risks 2021, 9(4), 79; https://doi.org/10.3390/risks9040079
Received: 29 December 2020 / Revised: 25 March 2021 / Accepted: 14 April 2021 / Published: 19 April 2021
(This article belongs to the Special Issue Pension Design, Modelling and Risk Management)
The central issue of this paper is analysis and resulting proposals to help unsophisticated pension participants achieve pension portfolios that match their level of risk aversion when there is a large amount of unexplained heterogeneity in risk aversion. Target date funds are commonly used as the default investment in defined contribution plans in the U.S., UK and other countries. These funds recognize that individuals usually should hold less risky investment portfolios as their expected retirement date approaches because their ability to bear financial market risk declines as the time horizon decreases. However, these funds do not account for differences in risk aversion among people with the same target date. Empirical studies find large amounts of unexplained heterogeneity in risk aversion. Target date funds cannot deal with this issue simply by sorting people into demographic groupings, other than age, that are known to affect risk aversion, such as gender. Financial education can help people do a better job of managing financial market risk in their pension portfolios, but we argue that it is unreasonable to expect millions of pension participants to attain advanced levels of financial literacy. This paper considers three innovations in target date funds that can help individual pension participants do a better job of managing financial market risk. The analysis can be applied to other situations where defaults are used for investing pension participants’ portfolios. The paper suggests new lines of research relating to individual differences in risk aversion. View Full-Text
Keywords: investment risk; risk aversion; target date funds; financial advice; financial literacy; financial education; robo advice investment risk; risk aversion; target date funds; financial advice; financial literacy; financial education; robo advice
MDPI and ACS Style

Turner, J.A.; Klein, B.W. Improving on Defaults: Helping Pension Participants Manage Financial Market Risk in Target Date Funds. Risks 2021, 9, 79. https://doi.org/10.3390/risks9040079

AMA Style

Turner JA, Klein BW. Improving on Defaults: Helping Pension Participants Manage Financial Market Risk in Target Date Funds. Risks. 2021; 9(4):79. https://doi.org/10.3390/risks9040079

Chicago/Turabian Style

Turner, John A., and Bruce W. Klein 2021. "Improving on Defaults: Helping Pension Participants Manage Financial Market Risk in Target Date Funds" Risks 9, no. 4: 79. https://doi.org/10.3390/risks9040079

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