Continued: Running on autopilot

The hottest new products in the 401(k) universe are known as a "targeted maturity funds," which essentially allow investors to put their portfolio management on autopilot for years to come.

Also known as "target date funds," these accounts are essentially funds of funds -- managed funds that hold an entire portfolio of mutual funds allocated based on the investor's age. As the investor gets closer to retirement, the portfolio is adjusted and rebalanced automatically to a more age-appropriate asset allocation.

But managing the account is not the only effortless part of the process for some 401(k) target maturity fund investors. Thanks to some new rules from Congress, even the enrollment process for targeted maturity funds can be handled without any involvement by the investor.

The Pension Protection Act, passed by Congress in 2006, was designed to encourage broader participation in 401(k) plans by allowing companies to automatically enroll new employees in their 401(k) plans -- unless the employee explicitly expressed a desire not to be enrolled in the plan.

Referred to as "negative election," the rule has helped companies bolster participation in their 401(k) plans and assist their employees in preparing for retirement by allowing them to enroll new employees automatically. The rule also enables companies to automatically raise the employee's contribution level by 1 percent each year.

In the past, however, employees who were enrolled through negative election were typically placed in relatively safe but low-yielding money market accounts. "Those short-term investments were barely paying enough to beat inflation," explained Susan Stiles of Stiles Financial Services in Minnetonka.

Under new rules from Congress, companies were granted safe harbor to go beyond money market funds and enroll their employees in targeted maturity funds that theoretically should provide better long-term returns than money market funds.

Targeted maturity funds are typically offered by mutual fund companies, such as Fidelity, T. Rowe Price and Vanguard. According to Lipper Inc., at least 55 mutual fund families now offer target maturity funds, with total assets in excess of $50 billion.

The accounts are typically made up almost entirely of mutual funds managed by the mutual fund company. For instance, the Fidelity Freedom 2025 Fund, which is geared to investors who expect to retire around 2025, has a portfolio made up entirely of Fidelity mutual funds. In all, it holds 23 Fidelity mutual funds, including large-stock funds, small-stock funds, bond funds, and foreign-stock funds.

"Target maturity funds can be a big moneymaker for mutual fund companies," Stiles said. "They push them as a catch-all, one-stop solution. But some of the funds have fairly high expense ratios, and it's very difficult to unravel the total fees and expenses you're paying for these plans."

The strategy behind target maturity accounts is for younger investors to begin with a fairly aggressive portfolio, and as they grow older and closer to retirement, their asset mix would be adjusted to a more conservative allocation. The money in each fund is fully invested at all times and the portfolios are actively managed by investment professionals.

How have target maturity funds performed? Unfortunately, the concept is so new that it's too early to assess their effectiveness in terms of long-term performance.

But clearly, the performance of a target market fund is directly related to the quality of the mutual funds within the account. And since most mutual fund companies only use their own funds in their target maturity funds, fund companies with average or under-performing mutual funds will also have target maturity funds with poor to mediocre performance.

Investors willing to spend the time to put their own portfolios together using the best funds from a wide range of mutual fund companies should be able to outperform many of the proprietary fund company accounts, according to Stiles. "Not all mutual fund families have fabulous plans. Creating your own portfolio with the best options available to you would probably be better than using a target maturity plan," she said.

But for investors who don't have the time, interest or expertise to manage their own portfolio, the target maturity accounts provide a compelling, effortless alternative. "If you don't want to do the work or if you don't have the tools available to build your own portfolio," said Stiles, "target maturity funds are probably a good platform."