Summary FFFEX offers investors a high expense ratio to go with a needlessly complex portfolio. By incorporating an enormous volume of other mutual funds the target date fund incorporates a higher expense ratio with suboptimal holdings. If the fund needs exposure to the total US market, they can ditch the complicated combination of funds and just use FSTVX. The bond holdings of FFFEX are suboptimal. Since the portfolio is so heavy on equity, the bond holdings should emphasize long term treasury securities. Lately I have been doing some research on target date retirement funds. Despite the concept of a target date retirement fund being fairly simple, the investment options appear to vary quite dramatically in quality. Some of the funds have dramatically more complex holdings consisting with a high volume of various funds while others use only a few funds and yet achieve excellent diversification. My goal is help investors recognize which funds are the most useful tools for planning for retirement. In this article I’m focusing on the Fidelity Freedom® 2030 Fund (MUTF: FFFEX ). What do funds like FFFEX do? They establish a portfolio based on a hypothetical start to retirement period. The portfolios are generally going to be designed under Modern Portfolio Theory so the goal is to maximize the expected return relative to the amount of risk the portfolio takes on. As investors are approaching retirement it is assumed that their risk tolerance will be decreasing and thus the holdings of the fund should become more conservative over time. That won’t be the case for every investor, but it is a reasonable starting place for creating a retirement option when each investor cannot be surveyed about their own unique risk tolerances. Therefore, the holdings of FFFEX should be more aggressive now than they would be 3 years from now, but at all points we would expect the fund to be more conservative than a fund designed for investors that are expected to retire 5 years later. What Must Investors Know? The most important things to know about the funds are the expenses and either the individual holdings or the volatility of the portfolio as a whole. Regardless of the planned retirement date, high expense ratios are a problem. Depending on the individual, they may wish to modify their portfolio to be more or less aggressive than the holdings of FFFEX. Expense Ratio The expense ratio of Fidelity Freedom® 2030 is .74%. That expense ratio is simply too high. Investors using a target date fund need to keep an eye on those expenses. It is possible to create a very efficient portfolio using only a few funds. Ideally the funds selected for building the portfolio would be selected for offering excellent diversified exposure at very low expense ratios. At the most simplistic level, an investor is looking for domestic equity, international equity, domestic bonds, and international bonds. If any of those had to be left out, the international bond allocation is the least important. In my opinion, there is no need to use both growth and value indexes. There is no need to individually use large, medium, and small-cap allocations. For instance, the Fidelity Spartan® Total Market Index (MUTF: FSTVX ) has a net expense ratio of .05% and offers exposure to the vast majority of the U.S. market. If you were building a target date fund from Fidelity funds, you could simply use FSTVX and eliminate all other domestic equity funds. This method would provide investors with a low expense ratio on the underlying domestic equity position and excellent diversification. That is precisely why I am including FSTVX as a holding in my portfolio. The Vanguard Target Retirement 2030 Fund (MUTF: VTHRX ) has an expense ratio of .17%. Just so investors have a healthy comparison of how much it costs to run a very efficient target retirement fund, the Vanguard expense ratio gives a pretty clear indication. Holdings / Composition The following chart demonstrates the holdings of Fidelity Freedom® 2030: If you were making a target date fund, how many allocations would you need? Hopefully it wouldn’t be that many. Note that the holdings chart above simply showed the equity funds. There is simply no need for a portfolio to be this complex. The list below shows the bond portfolios: A Major Problem When you look at the equity portfolio, it is very complex. When you look at the bond portfolio, it is quite simple. The issue I’m noticing is that the portfolio is not holding any allocations specifically to treasury securities. There is one allocation to investment grade bonds, but that is it. This portfolio suffers from almost every sector allocation having positive correlation with the other sector allocations. When investors give up the negative beta of long term treasuries it is extremely difficult to be on the efficient frontier. When you combine missing out on the benefits of negative beta with having a very high expense ratio, you have a very poor choice for a retirement fund. Looking Deeper Since there is only one bond fund that is has an allocation greater than 4%, I decided to look deeper into that holding. The Fidelity® Series Investment Grade Bond Fund (MUTF: FSIGX ) is closed to new investors, has an expense ratio of .45%, and has a fairly weak allocation to treasuries as demonstrated by the following chart: (click to enlarge) Treasury securities are making up 20.4% of the portfolio. The resulting portfolio clearly deviates quite dramatically from the selected index fund. When I used Invest Spy to run a regression on FSIGX, the negative beta was only -.08. Fidelity has other long term bond funds like the Fidelity Spartan® Long Term Trust Bond Index Fund (MUTF: FLBAX ) which have dramatically lower betas. How much lower is the beta for FLBAX? It is around -.46. Simply put, FLBAX belongs in most Fidelity target date funds because it offers a great negative correlation to equity holdings. Of course, allocating money to FLBAX may be less profitable since it only has a .1% expense ratio. Volatility An investor may choose to use FFFEX in an employer sponsored account (if their employer has it on the approved list) while creating their own portfolio in separate accounts. Since I can’t predict what investors will choose to combine with the fund, I analyze it as being an entire portfolio. (click to enlarge) When we look at the volatility on FFFEX, it is only moderately lower than the volatility on the SPDR S&P 500 Trust ETF (NYSEARCA: SPY ). For a fund that has the option to include long term treasuries, international diversification, and in general has an enormous combination of underlying funds, it is very disappointing that the target date fund for investors that are only 15 years from retirement has demonstrated almost as much volatility without offering even close to as much in the way of returns. Granted, the S&P 500 has thoroughly defeated international markets over the last several years. Having weaker returns is perfectly acceptable for FFFEX; the problem is that it also had a similar max drawdown. If the fund included a substantial position in FLBAX, that max drawdown would not have been near as bad. I’ve demonstrated a combination of FFFEX with a 20% allocation to FLBAX: (click to enlarge) Even though FLBAX also has a huge max drawdown, the extremely negative beta results in the max drawdown events occurring at different times for each funds and the combined portfolio has a max drawdown of only 9.4%. For the investor that is only 15 years out from retirement (20 years from when the sample period began), having a max drawdown of 9.4% sounds much better than 17.5%. Of course, investors should not rely on historical results as predicting future results. The example is simply to demonstrate that a portfolio of domestic equities and long term treasuries has been capable of maintaining fairly low portfolio volatility due to the historical negative correlation of the two asset classes. Conclusion When an investor takes on an expense ratio that is even .3% higher and pays that ratio for 20 years, they are looking at losing 6% of the value of the portfolio without accounting for compounding. If investors account for the benefits of compounding and assume annual returns are positive, the potential value lost is even greater than 6%. FFFEX is an expensive option for investors looking for a simple “set it and forget it” retirement plan from their employer sponsored retirement accounts. The volatility of the fund is not a problem and the total exposures are not unreasonable. The problem comes down to two issues. One is that the fund has needlessly complicated the portfolio holdings and the other is that the expense ratio is simply too high when compared to similar products offered by competitors. There are some great funds offered by Fidelity and I have positions in a few of them. Unfortunately, this fund just falls short of the mark. To improve the allocations within the fund, the managers should dramatically simplify the portfolio and use low expense funds for allocations to each core section. Those sections would be domestic equity, international equity, treasuries, and international bonds. Having a small allocation to junk bonds would be fine as well.