Age features on 529 plans – Risk and Return
Recently, I wrote about a few of the primary features of 529 plans, and I focused on qualities proven to provide higher returns. Suffice it to say, Direct-Sold, closed-architecture 529s have stood out from the competition in the last decade. This article will introduce a feature of a different sort.
Aging features are fairly popular among the better-known funds, but you are not required to take the 'aging option' when you invest. In many cases, you will be given the decision regarding whether to use aging, and you may be able to choose how aggressive you want your plan to be.
More aggressive plans will invest a greater portion of your funds into securities, or stocks. Stocks carry a lot of risk, but they also carry the greatest returns. You are less sure of reaping that profit, but the profit will be bigger.
Imagine I give you a choice. You can either make $10, or you can pick one of ten cups. Under one of the ten cups, I have placed $12. Which would you choose, the riskier $12 or the sure $10? If you wanted $12, you might want a more aggressive plan.
In any given year, the stock market might underperform and provide less growth or even lose value. On average, however, the securities chosen by a 529's portfolio manager will aim to balance out much of the risk, and you will see the value of your account grow quickly. But catastrophe can always happen, as with the late housing crisis, and before that, the dot-com bubble.
If you were growing money that you never intended to withdraw, then stocks would be a stronger bet. Because if and when a crisis occurs, you could just sail through and let your stocks regain the value they had lost.
After a few years, the market would recover, and you would look pretty rich again.
But 529s are created with a specific intent, which is to pay for your kids' college. So the majority of the funds will be withdrawn within a four-year period. You might not want to risk a market decline just as your kid is matriculating in freshman year.
That is why many 529s have aging features.
Aging features reduce the portion of investment in securities as your kid grows older. In the last 5 years, your account might not hold any value in the stock market at all, which shields the account from market declines.
The downside, of course, is growth. The more mature an aging-optioned account becomes, the less quickly it will grow. So you sacrifice some ultimate value, probably, and in exchange you have the equivalent of investor's insurance.
The aging features gradually insure your account against stock market decline.
Many people love that option, but some people would rather roll the dice a bit more. In the final years leading up to school, the 529 will have more value and therefore more growth potential than at any other time previous. It will also have the most loss potential.