Robo-Advisor vs. Target Date Fund: What’s the Difference? (2024)

There’s no denying the fact that investing is complicated. Robo-advisors and target date funds both can help with that, making it easier for investors to build and manage their portfolios. However, they are designed for different situations and achieve that goal in different ways.

Generally, automated robo-advisors are more flexible and can build more complex portfolios suited for a variety of needs. Target date funds (TDFs), by contrast, have the more specific aim of helping people invest for retirement by slowly adjusting their holdings to reduce volatility and risk over time.

Robo-Advisor vs. Target Date Fund: Key Differences

Robo-advisors and target date funds (TDFs) are both popular choices for investors looking for a hands-off way to build and manage a portfolio. Before choosing one over the other, it’s important to understand the key similarities and differences.

Fees

Fees can have a significant impact on investment returns, so knowing what each charges is key to deciding between robo-advisors and target date funds.

Robo-advisors typically charge a management fee that is equal to a percentage of your invested assets.

For example, robo-advisor Betterment charges $4 per month for accounts with balances under $20,000. Their fees go up to 0.25% of invested assets annually for accounts with balances of $20,000 or more or accounts with monthly recurring deposits of at least $250. Another robo-advisor, Wealthfront, charges the same 0.25% fee.

Robo-advisors typically build portfolios using mutual funds or exchange-traded funds (ETFs). These funds charge an expense ratio, which is an additional percentage of your invested assets.

For example, Betterment builds its portfolios using a variety of index funds. A common holding like the Vanguard U.S. Total Stock Market fund (VTI) charges an expense ratio of 0.03%. This means that investors using Betterment pay 0.25% to Betterment annually plus 0.03% of the portion of their balance that Betterment invests in VTI to Vanguard.

Each ETF charges a different expense ratio, so the end result is that investors who use a robo-advisor will pay fees to both the robo-advisor and the company that manages the fund.

Target date mutual funds only charge an expense ratio. Investors don’t pay an additional fee to a robo-advisor, which means the cost is often lower. For example, Vanguard’s Target Retirement 2060 fund (VTTSX) charges an expense ratio of 0.08%. That’s lower than the 0.25% charged by Betterment even before adding in the expense ratios of the funds in which they invest.

Investment Strategies

In general, target date funds are built to help people save for retirement. You choose a fund that has a target date near the year when you plan to retire. The fund then adjusts its portfolio based on the amount of time left until the target date.

Typically, target date funds invest in more volatile assets with higher potential returns early on, then slowly decrease their holdings of stocks and increase their holdings of bonds as the target date nears. This reduces risk and volatility as the time for investors to retire and start drawing from their savings nears.

Many mutual fund companies structure their target date funds as funds of funds, meaning that the target date funds hold shares in other mutual funds from that company. In this way, they work somewhat similarly to robo-advisors, which construct portfolios out of mutual funds.

However, while target date funds are largely designed for saving for retirement, robo-advisors have more flexibility. Some robo-advisors can invest for other goals, such as saving to buy a home or to cover other expenses.

Many robo-advisors also tout the ability to use more advanced investment strategies, such as tax-loss harvesting, which they argue can increase returns.

Personalization

Robo-advisors are the clear winner when it comes to personalization.

With a target date mutual fund, the most you can do is compare different funds from different management companies and choose the one that you like best. The underlying portfolio of each fund isn’t something that you can adjust.

Robo-advisors are much better at personalizing your portfolio. While most still invest in mutual funds and ETFs rather than constructing a portfolio using individual securities, they often have a large menu of funds that they invest in.

This allows robo-advisors to personalize your portfolio more carefully based on factors such as your age, risk tolerance, and goals.

Minimum Investment

Many investment products have a minimum balance requirement. If you don’t have enough money to reach the minimum, then you won’t be able to invest.

Investment minimums can vary widely, so it’s hard to compare robo-advisors and target date funds on this metric. The minimum for ETFs can be as low as the price of a single share, and many mutual funds have minimums of $1,000 or so. Then again, some have no minimum.

Minimums for robo-advisors can also vary significantly. For example, Betterment has no minimum balance requirement for most of its services, but it requires a $100,000 balance for access to its Premium service. Wealthfront has a $500 minimum balance.

What Is a Robo-Advisor?

A robo-advisor is a program that helps people automate their investments. Typically, when you sign up for a robo-advisor, you’ll answer a survey that asks about your financial situation, age, and goals. It feeds your responses through an algorithm that then produces investment advice. It also constructs and manages a portfolio for you.

Robo-advisors are relatively new, first reaching the market in 2008. However, they’ve grown significantly in the years since, with estimates that they’ll manage more than $1.5 trillion in 2023.

What Is a Target Date Fund?

A target date fund is a type of mutual fund designed to help investors save for a specific date in the future. They’re highly popular among investors who are saving for retirement.

Typically, in the early years, these funds hold a large percentage of their assets in stocks and riskier assets. As the target date nears, the fund rebalances its portfolio to reduce its stock holdings and increase its stability by holding a larger portion of its money in bonds.

Robo-Advisor Pros and Cons

Robo-advisors can help automate your investment portfolio, but it’s key to consider both the pros and cons before you start to invest.

Pros of Robo-Advisors

Robo-advisors are a good option for people who want to be very hands-off with their investing. Once you open an account and provide the program with information about your finances and goals, all you then have to do is decide when to make deposits and withdrawals. The robo-advisor will handle the rest.

They also serve as a good middle ground between DIY investing and working with a human professional. You get some of the hand-holding you would get from a human advisor, but typically at a much lower cost.

The best robo-advisors also tend to be better-suited than target date funds for saving for a variety of goals. Target date funds are typically focused on one thing: helping maximize your portfolio’s value by a specific date.

Cons of Robo-Advisors

Compared with target date funds, robo-advisors tend to charge higher fees. Keep in mind that with a target date fund, you only pay the fund’s expense ratio. Robo-advisors charge a fee, then invest your money in mutual funds and ETFs that also charge an expense ratio, which means a higher overall cost.

It’s also important to remember that robo-advisors rely on both their programming and the data you give them. If you don’t answer its questions honestly and accurately, then a robo-advisor could build a portfolio that doesn’t align with your goals. Also, a robo-advisor may struggle to handle unusual financial situations where a human advisor would be more able to adapt.

Target Date Fund Pros and Cons

Target date funds are a good option for long-term savers, but they also have cons to consider.

Pros of Target Date Funds

If you’re looking to save for retirement, target date funds are one of the simplest ways to do so. If you feel like a target date fund’s portfolio aligns with your risk tolerance and goals, then all you have to do is choose the fund with a date that’s close to your retirement date and start investing. The fund managers will handle rebalancing and adjusting risk over time.

Target date funds can also be a cheap way to invest, especially if you opt for one that uses an indexing strategy rather than active investing. You can find expense ratios as low as a few hundredths of a percent, which is many times cheaper than the fees charged by a robo-advisor.

Investment minimums are also low, sometimes lower than those of robo-advisors. You can often start with $1,000 or even less to invest.

Cons of Target Date Funds

A major drawback of target date funds is that they’re relatively cookie-cutter in nature. There won’t be a huge amount of difference among target date funds, so if you’re looking for a more unusual portfolio or you don’t feel that the portfolio composition is right for you, then you might struggle to find a target date fund that is right for you.

They’re also only suited to saving money for a specific date. While that makes them good for long-term goals like retirement, robo-advisors are better when it comes to targeting multiple goals at once.

Robo-Advisor vs. Target Date Fund: Which Is Right for You?

Choosing between a robo-advisor and a target date fund can be difficult.

On one hand, if you have a relatively simple financial situation and are only saving for a specific long-term goal like retirement, then target date funds are a great choice. They’re inexpensive and designed to achieve a specific retirement goal.

On the other hand, a robo-advisor may be a better fit for people who have more varied financial situations and want to save toward multiple goals. They can also appeal to people who want to use more complex investing strategies like tax-loss harvesting.

The Bottom Line

Both robo-advisors and target date funds offer a hands-off way to invest for the future. Target date funds are inexpensive, but are mostly designed to help retirement savers. Robo-advisors tend to charge more, but can offer a larger variety of investing options.